Many people find themselves overloaded with debt from credit cards and installment loans. Make a plan to reduce debt for sound personal finance management.
Debt is not a bad thing if you can comfortably pay it off early. But if you cannot make those payments, it is time to plan to reduce your debt.
1. Your Attitude
Before you begin making a debt reduction plan, adjust your thinking to make sticking to the plan easier:
- Remember that cuts you make in spending are temporary. Do not fall into the trap of feeling "forever deprived".
- When you feel like giving up on reducing your debt, remember that small steps show results cumulatively. If you stop taking those small steps, you will not see the results. If you stick to it, in a few months you will see what you have accomplished.
2. Plan to Spend Less
Define your spending with a budget and keep non-essential spending to a minimum while you are reducing debt. You can create a budget on paper, with a spreadsheet or using software. Continuing to use credit cards or taking out new loans makes no sense whatsoever when you are in debt reduction mode.
3. Which Debt to Eliminate
This is the order in which you should pay off debt, with the mortgage listed last because it provides a tax deduction at a relatively low interest rate.
- Accounts with double digit interest
- Non-mortgage accounts with single digit interest
- College loans
- Mortgage
Do not roll your debt into a mortgage refinancing. Refinancing does little to change spending habits.
4. Which Debt to Pay Off First
Gather your account statements and list your debts by interest rate, with the highest rate at the top of the list going down to the accounts with the lowest interest rate. Write down each creditor, what you owe, the interest rate and the monthly payment.
Paying off the debt with the highest interest rate first saves a substantial amount in the long run. However, if the balance of this account is large you may get a sense of accomplishment and motivation by paying off the smallest account balance first. Use the option that makes sense to you.
After paying off the first debt, combine what you would have been paying on it with the payment for the second debt. After pay off the second debt, loosen up your household budget a bit to avoid feeling like you are in a financial prison, but use the majority of what you had been paying on the second loan to apply to the next loan, and so on.
5. How Much Can You Pay
To determine how much you can pay each month toward your debt, you need to put together a budget. If you already have a household budget, it will require some reworking to allocate additional money to the first debt you want to pay off.
In your budget, list basic needs such as home, utilities, transportation, food and health care and keep spending at a minimum in these areas by not wasting gas, turning down the heat, shopping sales, etc. Either eliminate non-essential spending or cut it back drastically and apply the savings to the debt. Be sure your budget includes minimum payments on debts you are not paying off, and consider taking on additional employment to use that income toward your debt.
6. The Future: Stay Out of Debt
After you have paid off all your debt, you will feel the freedom of being debt free. After sticking to a budget you will make wiser spending decisions for the future. Get more debt management tips in Control Your Debt and Keeping Away from Debt's Door.
