Over the years, I have been able to see how many people borrow in different ways. There are very severe cases of long term due to medical illnesses or student loan debt, but the vast majority of Americans are in credit card debt. Paying off credit card debt is one the healthiest decisions I ever made.
What would we do if we did not have these debts? What other objectives in life we could make if we had all that extra income available? For every credit card bill that we are paying, we are essentially foregoing the opportunity to allocate that money towards a potential asset – whether that be an interest-bearing saving account, CD, money market account, or even an investment into your dream business.
Fortunately, as in many other aspect of our personal finances, getting out of debt is not difficult, but it takes time, and requires some planning and a lot of discipline.
The methodology to follow consists of the following:
1. Recognize And Confront The Problem
The first step to resolving any problem is to recognize the problem itself. You should collect the last account statements for all your credit cards and add the balances in order to view your total debt. This will provide you with a standardized way aggregate the total and give you a complete picture of your total liabilities.
2. Hide all Your Cards
Our fundamental objective is to resolve our debt. Therefore, we must avoid continuing to dig a hole by buying items on credit (particularly during the Holiday Season). It is best to your cards in a safe place to avoid any temptation, and get used to paying everything in cash. There may be a bit of a shock initially but you’ll get used to it. Bottom line, don’t spend what you don’t have.
3. Prepare A Plan Of Action
First. we have to write on a piece of paper the total amount of net monthly income that we receive (i.e., tax-free). Then our fixed costs: rent or mortgage payment, telephone, gas, electricity, schools, cable TV, etc. Now, we have to estimate our other expenses, such as food, groceries and transportation.
With the full list of expenses written done, we can now see what costs can be eliminated such as cable, a lower cell phone bill (through a cheaper plan or other provider, dining out etc…These will obviously vary according to the individual. You know your expenses best and what you CAN and CANNOT live without so plan accordingly.
Finally, we should subtract expenses from your income to see how much we have available to dedicate to our creditors. This amount must be sufficient to cover the minimum payment of all our cards, and an amount to make additional payments. Otherwise, it is very clear that we are living above our means. You don’t want to get stuck making the minimum payments. The whole point is to pay more than the minimum balance required so as to avoid interest and late fees, and devote more money towards paying down the principal balance.
4. Prioritize Your List Of Debts
You should make a list of your credit card according to the following: Card name, Total Balance (Debt), interest rate, minimum payment, and payment date.
And then you should sort them. For this, there are two main approaches:
A). The Financially Optimal Approach. Sort your credit cards according to their interest rate from highest to lowest. In other words, you should pay down the card(s) that charge the highest interest rates, then pay down the card with the 2nd highest interest rate, then the 3rd, and so on. Using this approach, you’ll be concentrating our efforts on paying the most expensive debts first. That is why this is the optimal choice in purely financial terms.
B). The Psychological Approach. Sort your credit cards from highest to lowest according to the balance owed on each one. This approach allows you “small wins” because you can easily clear your smaller debts, then move on the 2nd smallest debt, the 3rd smallest debt and so on. This “snowball approach” has been shown to provide you with motivation to stick to your debt reduction plan. Now, don’t forget that you still need to continue to keep paying at least the minimum balance on all of your credit cards in order to prevent falling deeper into debt.
Now, all of this is well and good, but what if you still don’t generate enough income to take either of these approaches. We advise getting a side hustle to make some part time money, but if that isn’t possible then more drastic measures must be taken.
5. Sell Your Assets
Start small, and only with the assets that you can truly live without. For example, I live and work in Manhattan New York. It is a very walkable city and when my income took a drastic hit, the first thing that I did was to sell my car. This may be an option for you as well, but if you rely on your car to generate income (ie for work), then you this obviously won’t work for you.
Try selling unused household items, old clothing, furniture, or anything else that you don’t absolutely have to have. As a last resort, you may have to ask for a loan from a friend or family member but try to avoid this if you can. On one hand, the interest (if any) that a family member or friend may charge will typically be lower than that of your creditors, but money tends to put a strain on relationships. Only exercise this option if you absolutely have to.
Lastly, try to negotiate with your creditors or consider debt consolidation. There are numerous agencies that can negotiate on your behalf, but you may be able to get a reduction on your balances just as easily on your own so it’s worth a shot. After all, creditors would rather have something than nothing. Just be sure to find out how the balance will be reflected on your credit report. In other words, will it be reported as “settled for less than full amount” or paid off in full. The former could potentially negatively impact your credit score. Again, these methods should only be used as an absolute last resort as they may negatively impact your credit score.
Hope this helps and good luck! For more advice about dealing with debt, be sure to check out some of these articles.