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Diving Deep into Debt

| January 15, 2019
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Debt is a huge problem in our country and the statistics certainly show that. Credit card debt is on the rise, auto loans are at a record high, and student loan debt is also at a record high.

That said, we need to get this under control. Below is a thorough guide of how to get rid of debt, what to avoid, when to get help, as well as other helpful information.

What debts exist

  • Mortgage
  • Auto Loans
  • Student Loans
  • Credit cards
  • Personal loans
  • Payday loans

Make a Budget

When creating a plan to pay off your debt, a great place to start is by making a budget.\

Here’s what you do.

Write down all of your necessary expenses. Your housing costs, travel, insurance, food, utilities, etc.Things you can’t forego paying. The minimum payments on your outstanding debt is another important item on this list.

Next, you write down your income. Now you have to compare your income with your necessary expenses. This will show you exactly how much you have left over (if you have money left over) for extra debt payments or fun money.

Learn more about budgets, here.

Track Spending

The next thing you should do is track your spending. Go back three months and figure out where all your money is going. Make sure your necessary spending is accounted for, and then determine how the remainder is spent.

Going out to eat is a popular item on people's list. The point of tracking your spending is to find out if can actually afford that current level of spending. Another purpose is to figure out how much extra you could be paying towards your debt instead of silly, ancillary stuff.

Cut Spending

Once you’ve tracked your spending and determined what you are spending your money on, it’s time to cut.

If cutting your spending is difficult for you because you don’t want to give up a certain way of living, think of it this way.

Say you spend $200 per month at restaurants and bars. Similarly, let’s figure you have $2,000 in credit card debt. If your current monthly payment on this debt is $50 and you put that extra $200 towards it, you can have it paid off in 8 months.

At that point, you can resume your previous lifestyle or...repurpose that $250 into other debt payments.

Debt Avalanche

A method of paying off debt. This usually pertains to credit cards but could be used for other debts as well.

Here’s how it works. You pay the minimum on all of your debts, except the one with the highest interest rate. On that balance, you pay as much as you reasonably can. You do this each month until that high-interest rate debt is paid off.

At which you point you take the money that was being used for that debt and redirect it towards the balance with the next highest interest rate. Rinse and repeat.

This method saves you money by getting rid of your expensive, high-interest debt first.

Debt Snowball

Another debt payoff method is the debt snowball. Again, you pay the minimum on all your outstanding balances, only this time you are paying as much as you can towards the lowest balance. Do this until your lowest balance debt is paid off.

Once it’s been eliminated, redirect that money towards the next smallest balance. This method provides momentum because you get a win right away by paying off a balance.

Balance Transfer

This method pertains specifically to credit cards. If you have cards with outstanding balances and a high-interest rate (like most cards do), a balance transfer is an option.

A lot of credit cards offer a 0% interest introductory offer on balance transfers. You open a card and immediately transfer your balance from one of your high-interest cards.

This will save you money on interest. Be advised that the 0% rate is temporary, so do your best to pay off your balance before the introductory rate expires.

Another thing to keep in mind. The best deals and the best offers will be reserved for people with higher credit scores.

Personal Loan

A personal loan is a sum of money lent to you by a bank or credit union. You apply for a loan that has a total equal to your collective outstanding balances.

Your financial institution then pays off all your balances and leaves you with one loan and one monthly payment.

I would only recommend a personal loan for two reasons, but they both have to apply.

  1. The interest rate you’d receive from the personal loan is lower than your average interest rate for all your outstanding balances.
  2. You’re responsible enough/you don’t plan on carrying balances on any of your credit cards going forward.

For item number 1, if your interest rate on your personal loan is higher than your average rate on your other balances, you’re wasting money. For item 2, if you do a personal loan, but resume your bad spending habits, you’ll be right back where you start and you'll have a large loan to pay off too.

Things to avoid

  • Payday loans - This type of debt carries astronomical interest rates. The average interest rate for a payday loan is 400%
  • Closing accounts when paid off - Congratulations on paying off a balance! It behooves you to keep that account open, however. One of the factors that’s taken into account for your credit score is age of credit. Older accounts work in your favor.
  • Not having an emergency fund - Guess what happens when an emergency arises and you don’t have a rainy day fund to pay for it. You charge it. This puts your deeper in the hole.

Credit Counseling Agencies

A credit counseling agency will help you service your debt. It won’t get rid of debt as bankruptcy would, but it’ll help you manage what you have.

It does this by creating a budget for you, structuring a payment plan, negotiating lower rates, and if the need arises, negotiating payments for you so you can at least afford to service your debt.

The last option is only to be used when other methods don’t seem to work.

Most credit counseling agencies are non-profit, so be wary of companies that charge for products or services.

Among all the services offered, one of the most important things these companies do is educate their customers. This is extremely helpful and valuable as a consumer. Having that type of knowledge can be very empowering and give you the ability to fight for yourself.

Bankruptcy

There are two types of bankruptcy and they should be reserved as a last resort. Here’s the difference:

  • Chapter 7 - This type of bankruptcy is to discharge your debt. Any secured debt (i.e. debt tied to assets like a mortgage or an auto loan) is given back. You lose your house or your vehicle. Any unsecured debt is discharged and you are no longer obligated to pay it. This option is only available after a calculation is made that shows it is mathematically impossible for you to pay back your debts.
  • Chapter 13 - This bankruptcy is restructuring, and it’ll help you in one of two ways. 1) your debt is reorganized into smaller payments so you can afford to service your debt. 2) some of your debt is discharged so you are able to pay back what’s remaining.

Negotiate rates

Call your current credit card company, bank, or loan provider to negotiate a lower rate. The worst thing they can say is no.

When you call, try to get to a supervisor. They’re the decision maker and would most likely be able to help you. Explain to them why you’re a good customer and why you need your rate lowered.

They’ll respond either with a rate you’re willing to accept or one you aren’t. If you aren’t happy with what they offered, reiterate that you’re a good customer and how a lowered rate will help you.

At the end of the call, any rate lower than your current one is a win. Don’t get too greedy.

Review your credit report

There are two reasons to continually check your credit report.

  1. To keep tabs on your current balances, make sure you are making progress, and certainly to make sure it’s not getting any worse.
  2. Check for errors. Mistakes happen, removing those mistakes could reduce how much you owe and improve your credit score.

When to get help

  • Can’t keep up with payments
  • Debt continues to grow
  • Credit score is falling
  • Debt collectors are calling
  • Need to borrow money to pay bills
  • Paying off debt with debt
  • Maxed out credit cards

Conclusion

Debt sucks. Life is less stressful without it. You have to do whatever you can to get rid of outstanding balances so you can start living life on your terms.

Save for goals, set money away for retirement, and make sure you have an emergency fund for those sudden, unplanned expenses.

To learn more about getting out of debt and how to create a plan to get rid of it, send me an email!

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