Financial chaos is the leading cause of mental health decline, physical health decline, and divorce. Even more, it prevents us from doing the things we love and experiencing the life that we desire. Living a life consumed with debt is not worth it, but the reality is, rising household debt is a problem in the Western world. We, as a society, are driven by consumerism and Keeping up With The Joneses.
But it’s not all gloom and doom. There is a viable way out if you’re willing and ready to take on the challenge and sacrifice certain habits in your life that are causing you more harm than good. This article is a comprehensive guide with strategies to help you pay off debt and start living life.
Do a Thorough Analysis of Your Debt
Before you can move forward with any strategy or action plan, you need to know what you’re dealing with. While it’s difficult to face reality and calculate your total debt, it’s something you need to do. It’s better to rip off the bandaid as quickly as you can so you can get your plan started. At the very least, you might not be in as much debt as you think.
You can do this by gathering copies of your credit report via Equifax and Transunion. I suggest both because there is an off chance that one or more of your creditors only report to one of these two major credit agencies. Suppose you pay for an updated report with Transunion, but it’s missing a few of your old debt accounts that you forgot about; your financial analysis will be incomplete. The same goes for Equifax. The benefit of using these reports is that they provide you with a real-time update of your active credit accounts and your unpaid inactive accounts.
Once you have a birdseye view of your total debt, you can move forward with your plan.
Consider Restructuring Your Debt
The debt restructure program involves a few essential steps. First, you want to reduce the total interest being paid on your combined debt. To do this, you can contact your credit provider and negotiate a lower interest rate. Further, you may want to consider consolidating your debt.
Transfer Your Account to A Lower Interest Rate Card
As you may be aware, all credit card companies offer a cocktail of cards that come with different interest rates. The rate you get approved for depends on your credit rating and income. Call your credit card provider and inquire about lower interest rate cards. If you qualify, make the transfer.
Consolidate Your Debt
Consolidating your debt means taking out a new loan to pay off all or most of your outstanding debt. The purpose of this is to pay off and close all your debt accounts so you can focus on making one payment each month to one account. The benefit of doing this is that you will be paying interest on one debt account only, rather than multiple. If you are drowning in debt from various accounts, this might be the best option to make your payments more manageable and to save money.
You have a few viable options for consolidating your debt.
- Apply for a Line of Credit with your bank. The interest rates are much lower relative to a standard credit card. If you get approved for an amount that will cover your total debt, pay off all accounts, then focus on maintaining monthly payments to clear the line of credit.
- Home Equity Loan. If you’re a homeowner and have accumulated equity, you could have the option to take out a home equity loan. This means you would take out a loan against the equity that has accumulated in your home. Keep in mind; however, this does come with risks that you will need to be aware of. Since your home will serve as a collator against your home equity loan, if you run into issues repaying your loan in the future, the bank or credit union reserves the right to seize and sell your home. Accordingly, always weigh the risks and drawbacks of proceeding with a high-risk decision like this.
Choosing The Most Suitable Method To Pay Off Debt
When creating a structured debt repayment plan, most people choose from two of the most promising methods; debt avalanche or debt snowball. While they serve the same purpose; clearing up debt as soon as possible, choosing between the two comes down to what motivates you most.
The Debt Avalanche Method
Following this method requires the debt holder to make minimum payments to all accounts each month, and with any extra funds they have, they will pay down the account with the highest interest. When this account is cleared up, they will move on to the account with the second-highest interest and continue from there until the lowest interest rate card is paid. The premise behind this method is to save you as much interest as possible by clearing up high-interest accounts before low-interest accounts.
The Debt Snowball Method
Following this method requires the debt holder to make minimum payments on all accounts each month and put any extra funds on the credit card with the lowest balance. This method has a psychological element to it. It is believed that you are more likely to stay motivated with every milestone-paying off a credit card is a milestone. Thus, since it takes less time to clear up a small balance than it does to clear up a larger one, it makes sense to tackle the small balance first.
Allocate Your Funds Accordingly
Now that you determined your total debt balance and decided on a payment method, the next thing to do is incorporate a budgeting plan such as the 50-30-20 rule.
In a nutshell, the 50-30-20 rule is a basic way to allocate your income into three budgeting categories. 50% of your net income goes toward needs, 30% on wants, and the remaining 20% on debt and savings. This is an excellent tool if you lack the time, patience, and knowledge of more complex and detailed budgeting rules and tracking systems.
50% – Needs. These are the essential expenses that you cannot avoid, which must be paid each month. This includes rent/mortgage, utility bills, insurance, groceries, medical, etc.
30% -Wants. This is the non-essential category and covers all unnecessary expenses, including eating out, shopping, vacation, “treat yourself” expenses, etc.
20% – Debt and Savings. This category is for savings and extra debt payments.
While there are drawbacks and criticism to the 50-30-20 Rule, mainly that it’s not vigorous enough to pay down debts, it’s an excellent starting point if you’re a beginner and on a very tight budget. Once your debts begin to diminish and you have more monthly income available, you can increase the percent you allocate to savings. Moreover, you can adjust the numbers to best suit your goals and financial situation.
With a few simple steps, you can be on your way to living debt-free. The most challenging part will be staying disciplined and not giving into temptations that will take you off track. I want to add that paying off debt will open up a life filled with more opportunities to do the things you love and live the life you deserve. No one enjoys living paycheck-to-paycheck worrying about debt, so take control as soon as you can. You won’t look back.