Most Americans have debt. Many Americans have so much debt that they struggle to pay their bills due to the interest they are paying. Some are paying just the minimum payments. Getting out of debt is very doable; but for most it will require time and some discipline and it often requires making sacrifices.
The first step toward paying off your debt is understanding your debts.
First list all of your debts: credit cards, bank loans, payday loans, student loans, personal loans, medical debts, mortgages, etc. Total them: that number is your total debt. Then list the minimum monthly payments for each of these debts. Total the amounts of the minimum payments. This is your total payments. Then list the interest rates on each note from lowest to highest.
Some debts like today’s mortgages have very low rates. Some debts like some medical bills have 0% interest. Other debts like payday loans or pawn shops can have exorbitant interest rates in excess of 100%. The minimum payment on a $500 loan at a payday loan lender (in Alabama) is typically $85 (and that includes no payment towards the principal). A person who borrows $500 to get to their next payday and then renews that loan each month will pay over a $1000 in interest a year on a $500 debt….that they still owe interest on. Often those debts are secured by a check so they will zap your account if you are late with a payment and if it bounces the debt is referred to the District attorney’s bad check unit.
There is no place for payday lenders or pawn shops in your financial life. Pay the loan sharks off and get an emergency plan so you don’t ever go there again. A thousand dollar emergency fund and a credit card with a $0 balance are a much better strategy to deal with unexpected emergencies. Living on the edge leads to bad decisions with money and perpetual debt bondage.
Next keep your bills current. That avoids paying late fees on all your bills and situations where you needs $200 by Tuesday to keep the lights on or $650 by Thursday to keep the car from being repossessed. Having an emergency plan and current bills means that you don’t live from crisis to crisis so you can work a financial plan to get out of debt.
Next prepare a budget. Your budget should include: groceries, utilities, housing, necessary clothing, fuel costs, and the minimum payments on your debts. To get out of debt you are going to have to find money in your budget to pay down debts beyond just the minimum amount. There are only two ways to find money in your budget to pay down debt or to find money for investing: either you need to spend less money or make more money.
Cutting spending is generally much easier to do. Cut out the vacations, the fancy new clothes, dining out, the hobbies, the recreational spending, etc. and put that money to work and stop adding debt. If you can also make more money by working a second job or working harder at your primary job then your results will be even faster.
Target high interest credit cards first and when you pay off one debt, apply that payment toward the next debt on the list. Call your credit card companies and ask for lower rates. Anytime you can lower the interest you pay on your debts means more money you can pay toward principal and the sooner that debt payment can go away. Be on the lookout for lower rate credit card offers. When you can transfer balances from high interest accounts to low-interest accounts do it, because the less you pay in interest the more principal you are paying and the sooner the debt will be paid off.
Remember to stay insured for life’s unforeseen disasters. Accidents and illnesses happen in this life. Keep health insurance because you will need it to avoid piling on unexpected debts when a health challenge arises in your family. Far too many bankruptcies are caused by medical bills.
Eventually you will want to have enough set aside that if you lost your job for months or had to move unexpectedly you can pay those costs out of your emergency fund. Generally the rule of thumb is to have five to seven months of expenses in an emergency fund. If you are self-employed, have a very high (and hard to replace) income or have a career with highly variable annual income you might need a larger emergency fund.
Any time your life is facing greater risk or uncertainty, such as an approaching career change, a pregnancy, or a health scare, throw more money at the emergency fund.
Once you are in a position to attack that mortgage, go after it. A 15 year fixed rate mortgage normally has a lower rate than a 30 year fixed and will save you thousands over the life of a loan.
Getting debt free allows you to free up the resources that you have been using to service debts to investing in your future retirement. The typical American household carries $70,000 in non-mortgage debts and is servicing a $150,000 mortgage. Get all of that paid off and put all those income resources into building up a solid retirement plan so that you aren’t reliant on Social Security and the generosity of the government for your income when you can’t work any more. With discipline, a properly planned life, and sound investment strategies your retirement assets can be sufficiently large enough to provide a comfortable lifestyle for decades of retirement.
Every person’s circumstances are different. Prepare your own personalized financial plan with the help and advice of a competent money coach. The most important part of financial planning is to have a plan.
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