Are you like so many people and have excess debt you have to worry about? Do you have a plan on how to best pay off this debt? As the economy slowly improves it seems that most Americans are digging the financial debt hole a little deeper than it was last year. And when this happens people start to panic and may not make the best decisions with regards to their debts. It is never a good sign when someone goes to a payday loan, title loan, or shifts balances from one credit card to another. These are temporary fixes at best and in many instances financial pitfalls that can become almost impossible to get out from under. While it is true some states are beginning to regulate title and payday loan companies they are by nature a predatory company that really does not care if you ever pay them back provided you continue to pay something and take out additional loans. And I do not even want to think about what the fees and interest rates on these types of loans are because they will just upset me and make you sick but I have seen them over 125%. So how do you pay off your debts? Let’s look at some approaches.
On this website I sell a Debt Reduction Tool which is an Excel spreadsheet that with some input from you will tell you when a debt will be paid off, how much you will pay in total, and the interest you will pay on that debt. It is a simple tool to use but one that is very powerful and useful. Now there are two approaches to using a tool such as this. One is based on the interest rate the debt charges and the other is by the balance of the debt. There are financial planners that will advocate for each method so I played with the tool I sell and ran some numbers. I came up with about a dozen debts that consisted of credit cards, letters of credit, personal loans, and a mortgage. In this test I used fairly large debts with average interest rates and monthly payments. In the first approach I used the method Dave Ramsey suggests and that is to pay off small debts first, get a sense of accomplishment, and snowball the excess payments into the next debt. In the second test I used what Suze Orman suggests and that is to pay off the highest interest rates first and then go down the list that way also snowballing the payments so they get bigger for the following debts. In my example the debts were paid off roughly at the same time with a negligible difference in the amount of interest paid considering there was about $35,000 in personal debt and a $110,000 mortgage. The approach that had you pay the higher interest rate first saved you only about $1,000 in interest payments over the entire period of payments. The main key to any success here is to avoid creating any new debt while you are paying off your existing debts. Use cash and avoid credit at all costs in order to get out of debt and begin saving for large ticket items and your retirement.
Another key to reducing debt is to utilize a good and realistic budget. Again I sell one based as an Excel spreadsheet on this site as well as an affiliate that has an even better group of spreadsheet that can be used in budgeting, planning, mortgage, and many other functions. No one like to budget but unless you know where your money is going you will never understand how you will afford to pay off debts. Treat budgeting and getting out of debt like a plan you would use to lose weight or reward a child for doing their chores. And that is when you reach a milestone treat yourself to a small reward. For bigger milestones maybe your reward can be something bigger. But in your budget please do not take a drastic approach to budgeting and not budget any funds for recreation or entertainment. If you remove those activities you will be doomed to fail with your budget as they are important and necessary for one’s happiness.
By now you have prioritized your debts and budgeted to see where your hard earned money goes. Now if you are in the red there are some issues here. You may need to re-evaluate your budget items and reduce some or remove them completely if you have that option. But in many instances you may still be in the red meaning your expenses outweigh your income. In these instances it is important to reach out to your creditors and explain your situation to them and even share your two spreadsheet with them showing them you are serious about getting on top of your finances. If you have a good history with the company they will most likely work with you in forming a payment plan or reducing your interest rates that they are charging you. They key here is to keep honest and open communication with the creditor and pay at least something every month and on time. If you work out a payment plan live up to it and do not miss any payments or the creditor may switch the payment and interest back to what it was prior to your agreement. In today’s economy creditors know many people are hurting and most people do want to pay their debts and avoid bankruptcy. Again be honest with everyone and get everyone on the same page as to what you can afford to pay in the current environment. Your creditors may surprise you.
Watch out for debt management and debt settlement companies as they may not be the best option for you depending on your situation. Debt management companies are normally a non-profit entity that should belong to the National Foundation for Credit Counseling. While entering into a debt management program may be reported to the credit bureaus and could have a negative effect on your credit score they can be useful if you have no other options. And by making on-time payments your credit score should rebound over time as well. In my opinion avoid credit settlement companies all together. They charge high fees for their services and in many instances you could have gotten the same type of settlement or payment plan with your creditor by doing what I suggested in the previous paragraph.
While this is not an all-inclusive list of things to do to pay off your debt they do provide a good starting point. If you have a high interest rate on your mortgage and do plan on staying in the house for at least five years a refinance may be an option for you to reduce that expense. With student loans setting up automatic payments and paying for a 12 month period on time may get you a reduction in the interest rate the loan charges. The key here is and always will be know where your money goes, know what your debts are and what they look like in total charges, and be honest with your creditors. In many instances all you need to do is ask. The worst they will tell you is no and that will only leave you where you are now anyway. If you have been a good and loyal customer creditors will generally work with you on any issues you may have. For any of the spreadsheets I have mentions please go to the Financial Tools tab. If you have any questions please feel free to contact me.
