Tyler Jones is a retirement and financial independence author and blogger,
So You're in Debt
Are you one of the 80%1 of Americans struggling with debt? Are you also having difficulty paying it off? If so, you’ve come to the right place. In this article, we’re going to share 5 simple steps you can take today to start climbing out of debt.
While being in debt is unfortunate, it’s also pretty common. According to Experian, a leading credit reporting company, over 75% of Americans currently carry credit card debt2 (one of the worst forms of debt). You are far from being alone in this struggle. So don't beat yourself up, and don't be hard on yourself. Carrying debt is something that is quite normal and common. For most of the world, It's part of the human experience. No, It isn't a good thing to be in debt, but it isn't the end of the world either.
The important thing is to recognize that you're in debt and to recognize that something needs to change for you to dig your way out of it. If you're willing to open your eyes to your debt and change some simple habits you will be able to get out of debt. So lets get in to these 5 steps.
1. Eliminate High Interest Debt immediately (I.E. Credit Cards, and Payday Loans)
Is any of your debt from a credit card account? If so, you're likely paying interest rates above 20% per year. That's Crazy! If you were to maintain that debt on your credit card for 5 years, you'd be paying more in interest than the amount you borrowed in the first place. You need to find a way to pay this debt off immediately.
Do you own a home? Consider a cash-out refinance to get some extra money to pay off your credit card account. Don't have a mortgage? See if you qualify to take out a student loan to pay off your credit card debt. If so, do it. If neither of these options works for you then try to take out an unsecured personal loan instead. Only take out the exact amount of money you need to pay off your credit card and payday loan accounts. The interest rate is all but guaranteed to be lower than the rate on your credit card, so this will save you money in the long run.
2. Rip Up Your Credit Card
This second point may sound extreme, but now that you've eliminated your credit card debt, it's vitally important that you avoid racking up any more of it. If you take out a personal loan to pay off your credit card, you're going to dig yourself into a much deeper hole by continuing to use your credit card.
Don't have the money to pay for something now? Well then here's a novel idea for you: Don't put it on a credit card, just don't buy it in the first place. You shouldn't buy things you can't afford. Period.
3. Create a Budget (and Stick to it)
For this step, you will need to determine how much money you make in a month, followed by how much money you spend in a month. It should be obvious how much money you make. Determining how much you spend is a little trickier though.
One option would be to track every purchase you make over the next month. Another option would be to go through your credit card and debit card purchases for the past month and tally them up. When calculating, be sure to separate your mandatory expenses (rent, groceries, utilities, debt repayment) from your discretionary ones (Eating out, shopping, entertainment, etc.)
Now, in planning for your next budget, prepare to keep your discretionary expenses to a minimum, Avoid eating out, shopping sprees, and food delivery services. Don't budget for them, and don't use them. It's time to buckle down.
Once both of these steps are finished subtract your newly estimated monthly expenses from your calculated income to find out how much 'extra' money you will have per month. This 'extra' money is the money you are going to be using for your debt repayment.
*Please note that once you complete this budget it's vitally important to stick to it. No Cheat Days and no treating yourself. The trick to getting out of debt now is perseverance. If you won't stick to your budget you'll never get out of debt. You won't ever wake up one morning and realize that you 'accidentally' found your way out of debt. No, becoming debt-free is a proactive decision that takes months of consistent hard work to achieve.
4. Start Paying Down Your Highest Interest Debt
Now that you have calculated how much extra money you will have available each month, you need to rank your debt accounts in the order you're going to pay them off. Start with the account with the highest interest rate and lowest balance. You're going to take all of the 'extra' money you have per month, and use it to pay off this account first.
A good strategy to make it easier to follow through with this would be to make the debt repayments first, before your other expenses, as soon as you get your paycheck. Don't wait until the end of the month hoping you still have enough money left over to make the payment. Finally, keep making payments every month on this account until it is fully paid off.
5. 'Debt Snowball' and 'Debt Avalanche' the rest of Your Debt Away
Once your highest-interest debt account is paid off, You will find that you have quite a bit of extra money to leverage each month. Use this extra money to then begin paying off the next account on your list, This should either be the account with the lowest balance, or it should be the account with the highest interest rate.
While paying off the account with the highest interest rate will get you out of debt faster, if that account has a large balance you may get discouraged at how long it is taking you to pay off the account. Starting with the account with the lowest balance first is a surefire way to build your confidence and motivation as you start paying off and closing out your debt accounts. As you begin to pay off each account you will have more and more money available to throw at the next account. This will allow you to pay off each account faster and faster. Once you pay off the last account on your list you will be debt-free!
(Bonus) 6. Stay out of Debt
Now that you finally have all of your debts paid off it is important to avoid slipping back into your old habits. You should build up your savings to avoid getting into debt again. A common recommendation is to begin by preparing a 3-month emergency fund3. This emergency fund should be placed into a savings account for safekeeping.
Once your emergency fund is created, transition to long-term savings. Start to focus on building out your retirement fund and place any extra money into brokerage funds to invest your savings. Doing so will allow your money to start working for you, instead of the other way around. Investing your money into mutual funds will provide a safe way for you to diversify your investments while (hopefully) still providing you with a handsome return
In summary, If you're looking to get out of debt, remember that it's something that is 100% achievable. It's not a quick or necessarily easy task but with dedication and determination, you can make it happen. You just need to take a hard look at your current income and expenses and find places to trim your spending. Using this information you can create a budget that will get you out of debt. As long as you stick to your budget you will eventually achieve your goal of being debt-free.
This article is accurate and true to the best of the author’s knowledge. Content is for informational or entertainment purposes only and does not substitute for personal counsel or professional advice in business, financial, legal, or technical matters.
© 2021 Tyler Jones