Getting out of debt once and for all
Are you struggling with credit card debt, student loans, medical bills or car loans? In the frugal living article for this week, we are talking about how to get out and stay out of debt. Read on for a step by step guide to tackle that debt once and for all!Posted — Updated
Are you struggling with credit card debt, student loans, medical bills or car loans?
Do you wonder if they will ever be paid in full?
If so, you are not alone.
Thankfully, there are steps that you can take starting right now that will get you closer to debt-free living every day. I am not going to tell you that it is easy to dig out of debt.
If you are in debt, you will need to make some sacrifices to get out of that hole, but you will be so glad you did. The peace of mind that comes from living within your means is tremendous and well worth the effort.
Keep in mind that you do not have to stop enjoying your life to get out of debt. You just need to make some adjustments, some of which may be temporary, to get you to a more comfortable financial position.
The debt-to-income ratio is an effective way to compare your debt burden to your total income. It is also one of the leading indicators of financial health used by lenders to determine creditworthiness. To calculate your debt-to-income ratio, add all your minimum monthly debt payments and divide the total by your net (after-tax) monthly income. The monthly minimum debt payments include mortgage, rent, credit card bills, car payments, student loans, child support payments and any other loans you may have. Do not include food, entertainment and utility bills when calculating your debt-to-income ratio.
Minimum Monthly Debt Payments divided by Net Monthly Income = Debt-to-Income Ratio
A debt-to-income ratio of .36 (36%) or less generally indicates stronger fiscal health. A ratio of over .36 is cause for concern and must be lowered through debt reduction. When your debt-to-income ratio is high, an unexpected debt, such as a medical bill or job loss, could mean financial disaster for your family.
Once you know how many debts you have and what the interest is on each debt, it’s time to start paying them off aggressively. There are different schools of thought on how to do this. Most finance people agree that paying the mortgage off last is a good idea since those rates are usually so much lower than credit card interest rates. But, when it comes to paying off credit cards and other debts, financial gurus differ in their recommended methods.
Most will tell you to start with the debt that has the highest interest rate and put everything you can toward paying it off as soon as possible. Once it’s paid off, put the amount you were paying on that debt and add it to the minimum you are paying on the debt with the next highest rate until that debt is gone. Then take the money that went to paying the first 2 debts and apply it to the next one and so on until all the debts are paid. When I was in debt, this is the method I used.
There is also a school of thought that encourages those in debt to pay off the debt with the smallest balance first so you can have that feeling of payoff success more quickly. This is purely a psychological response and is not based in actual numbers. If you pay off the debts with the highest interest rate first, you will pay less overall.
Paying off debt does not happen overnight. Depending on your debt load, it can be a long process taking years. Celebrate every time you pay off a debt. Have a picnic in your favorite park, enjoy a treat from your favorite bakery or call your closest friend to share the exciting news. If it helps to see your progress as you pay off debt, post your Debt Payment Worksheet on the fridge or on the bathroom mirror – whatever works to keep you focused and motivated.
• DO NOT continue to incur more debt. Cut up your credit cards or freeze them in a block of ice and do whatever it takes to keep you from using them.
• Build up an emergency fund of approx. $1000 so you don’t incur more debt when life happens (car breaks down, for example).
• Ask for help if you need it. You can contact your creditors, explain your situation and that you want to pay off all your debt in a timely manner. Ask for a lower interest rate and hopefully they will oblige.
As I always say, it’s your money – spend it wisely!
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