So, how do we actually begin the process of paying off debt? It’s pretty easy to take one look at a mountain of debt and become overwhelmed. In order to destroy the mountain there are a few tips we need to follow.
- Organize your debt.
One of the keys to destroying debt is that it’s important to organize it on paper. Write down your outstanding debts from lowest to highest. You can include interest rates if you want, but it’s actually not necessary.
- Pay as much over the minimum payment on the smallest debt as you can afford.
If you have a monthly budget set up, you know exactly where all of your money goes. One of the most important things you can do right now is live as sparingly as possible. If you’re good about your spending, you probably have a bit of extra money each month. Use any extra money in your budget to pay toward the smallest debt.
One of the keys to reducing your debt is to have some success. This is one of the main reasons you should pay off the smallest debt first.
- Once you’ve paid off the first small debt, don’t go celebrate by spending more money.
Roll that monthly payment plus whatever extra you were paying into the next largest debt. By doing this, you’ll be paying more than the minimum monthly payment on the next card, which allows you to pay this debt off faster.
- Continue paying the extra amount until you’ve paid off the next highest debt.
Repeat the same thing with your next highest debt by rolling everything you’ve been paying plus the minimum payment on the next debt. This method of debt payment is called the Debt Snowball technique. Basically, you’re creating a larger and larger snowball payment with each credit card you pay off.
Eventually, you’ll finish paying off all of your consumer debts and then you can even pay off your mortgage early. Now that is a relief!
Other Things to Consider
There are some advisors who will tell you to borrow against your retirement plan. In my opinion, this is a huge mistake. If you borrow against your retirement, you’re still borrowing. You may save in interest on the debt that you are paying off; however, you will be losing interest on your investments and the amount of interest you will be paying yourself as you pay back what you’ve borrowed will not make up for that. Another strike against borrowing against your retirement is the fact that if you lose your job, you will have to pay the entire amount back within 60-days.
You should also be cautioned against getting a home equity loan or home equity line of credit (HELOC). In my opinion, you’re borrowing from Peter to pay Paul and you’re adding new debt and new terms to your mortgage. The point of paying off debt is, you guessed it, to pay off debt!
You might be asking about paying off your highest-interest debt whether it’s the smallest or largest amount. In theory, this is a good idea. However, in practice, there is a psychological component to paying off debt. The idea of paying off the smallest debts first is that you are actually paying something off. This gives you a huge boost of confidence and makes the statement in your mind that, “Hey, this can really work!”
If you’re struggling with a huge amount of debt, be creative. Do things that are out of the ordinary. Have a garage sale, for instance. Recently, I decided to have a garage sale and just get rid of stuff that I really didn’t think I’d need. I truly expected to get between $60 and $70. After the sale was over, I counted the money, took out what I owed my kids for their things and what I owed the bank for the “change” I had withdrawn and to my surprise, I had made over $280. These are the type of things that you may need to do in order to pull yourself out of debt.
One final note: If you continue to spend, you’ll continue the debt cycle. In order for the debt snowball to work, you have to cut your spending and work harder to temporarily make more money. If this means a second job or starting a home-based business, then so be it. The goal is freedom from debt. Now, get out there and hit the ground running with the above advice and create a new debt free future for yourself.
