How Much Debt Can you Handle

OF ALL the financial mistakes imaginable, the grimmest is falling too deeply into debt. You do not have to be poor to get bogged down in excessive borrowing. Yet there is no reason to slip in beyond your means. Fortunately, there are ways to figure out how much debt you can comfortably handle.

Think hard about whether you really want to borrow at all. It is not cheap. Short term rates on personal loans not backed by collateral averaged 19% in mid 2006. And with inflation at moderate levels, you no longer can count on paying back creditors in significantly cheaper dollars.

Most people, of course, do not have the luxury of avoiding debts altogether. So when you do borrow, remember: Necessities come first. These are followed by loans to finance long term assets such as home improvements, major appliances, furniture and, most important, education for your children. Be sure to reserve some borrowing capacity for emergencies, such as unforeseen medical bills. Only after you have provided for necessities, long term assets and emergencies should you even consider using credit for such indulgences as grand luxe vacations.

Here is a test that can help tell you how much debt is too much for you:

First, estimate your current annual disposable income that is all your income, minus your tax with holdings as well as contributions to various personal retirement, savings and investment plans.

Next, map out the year's expenses. Calculate how much of them will require various forms of debt, notably installment loans.

Debt counselors and credit managers generally agree that no more than 15% to 20% of your disposable income should be committed to installment debt, not counting home mortgage payments. Do not necessarily consider this your own upper limit. You may become nervous at only 10%, particularly if there is only one breadwinner in the family and you have a number of dependents.