“Buy now, pay later” is an option many consumers take to get a new mobile or car; but doing it non-stop can lead to financial problems, like over-indebtedness. Here we tell you how it can be spotted, handled and, above all, avoided.

Months ago, Pedro realized he was having a hard time covering his personal expenses and staying on top of his financial obligations. Also, he was no longer topping up his savings with part of his salary but instead using them to pay for credit card charges from his last holiday, plus his monthly streaming subscription. Unbeknownst to him, he was over-indebted. Over-indebtedness is where a person or business accumulates debt that exceeds their current income.

There are two types: “passive” over-indebtedness, caused by unemployment and other sudden events that make paying off a debt impossible; and “active” over-indebtedness, the result of taking on debt beyond one’s ability to pay (like Pedro).

How to tell if you're over-indebted

Doing the maths, we should easily know when the money we earn isn't enough to cover our expenses and debt. But because financial biases work against us and cloud our financial judgement, we should learn the warning signs of over-indebtedness:

• No cash on hand. We’re shopping at the supermarket, filling up at the petrol station or making a recurring bill payment and need to resort to a credit card or a loan because we don't have money on hand.
• Taking on more debt to settle a debt. We get loans or advances in cash with a credit card to pay the monthly card fee or any other debt.
• Late payment and default. We miss payment on a debt (no matter how small) or make it late because we don't have money on the due date.
• Overspending. We don’t follow the recommended “50-30-20” rule, which is putting 50% of our income towards basic needs (e.g., food, transport, mortgage/rent, etc.), 30% towards non-basic, everyday expenses (e.g. whims, gym memberships, leisure, etc.) and 20% towards savings.

How to get out of over-indebtedness

When we realize we are or could be over-indebted, we should check our personal or household finances and make an exit strategy. If we don’t act fast, we risk running up more debt, with mounting late payment or default interest; ending up blacklisted; and ultimately damaging our financial health.

Remember Pedro? Here are some tips that could help him take control again of his personal finances and get out of over-indebtedness.

• Don’t take on more debt. First, he must cut back on or stop using credit cards and loans to cover expenses as much as possible to avoid running up new debts. This Sano de Lucas article (in Spanish) will show you some tips about tackling debt wisely. 
• Cut out unnecessary expenses. Because Pedro needs to reduce his payment obligations, he must review his spending and choose what he can live without (even temporarily) until his finances are in order. He might consider his streaming subscription, which charges his bank account every month.
• Make a payment plan. He should create a schedule based on his income and the due dates of his payment obligations so he knows what he’s paying each month and can adjust his expenses or top up his income if necessary.

How to prevent over-indebtedness

Financial planning is key if we want to avoid getting or falling back into debt. Striking the right balance between income, expenses and savings is possible if we follow these tips:

• Keep a lid on credit cards and loans. Credit cards and personal loans can help us get hold of certain products and services. Using them appropriately now will avoid issues in the future.
• Draw up a budget. To avoid living beyond our means and later having to borrow money or dip into our savings (like Pedro!), we should draw up a list of our income and outgoings to see what we can really afford. This will make it easier to get rid of any so-called “ant expenses” and other things that prevent us from saving.
• Spend money wisely. While saving is the best way to get hold of the latest mobile or buy a new car, a loan could be a good option in certain circumstances. However, we should think carefully about how borrowing may affect our future finances.