What are the most common financial resolutions? Save more money, pay down debt, and spend less. These are all important goals to helping anyone achieve financial security. This week we are looking at paying down debt.
Most people at some time in their lives have trouble managing their finances, and this is especially true for those who live in poverty and have limited resources.
We use debt, or credit, to pay for some things. We have mortgages for our homes, we take out loans for vehicles, or we use credit cards to buy things. Debt isn’t bad unless we let it get out of control.
Credit is the ability of a person to obtain goods or services before payment, based on the trust that payment will be made in the future. Debt is something, typically money, that is owed to others.
Last week NerdWallet released the results of their 2021 American Household Credit Card Debt Study. They found that credit card debt is down, but total debt has increased over the past 12 months. The cost of living is growing faster than household incomes. More than a third of Americans (35%) say their household financial situation has gotten worse over the past 12 months. For those households earning less than $50,000 a year, 47% say their situation is worse than a year ago.
The total debt owed by the average US household is now $155,622. This debt can include mortgages, home equity lines of credit, auto loans, credit cards, student loans and other household debt, according to the Federal Reserve Bank of New York.
Having debt often creates financial difficulties for families. You have to pay interest, and perhaps additional fees. If you are delinquent, or late in your payments, those interest rates increase and more fees are added. You also damage your credit score and have to pay more to obtain credit in the future.
The debt that is so high it has to be controlled is our credit card debt. An unpaid balance on a credit card can have an interest rate anywhere from 18%-39%, rates much higher than you would pay for a loan at the bank. Americans who have credit card debt (which is about half of those who have cards) owe a total of $6,006! (This is down 14% from last year.)
How can you pay down your debt? Maybe you could take out a loan and pay it all off, then make monthly payments on that loan, which charges a lower interest rate. If your credit is good enough you might sign up for a balance transfer card that gives you an interest-free period. You move all your debt from your other cards, then work on paying off the new card. Don’t wait for the interest-free period to run out!
If you choose to work with the credit you currently have, you have two options to pay down that debt: high interest loans or cards first or small debts first.
Make a list of all your loans. Include
◦ Who or where you owe money
◦ Type of loan (mortgage, car, student, credit card, etc.)
◦ Amount owed
◦ Interest rate being paid
◦ Minimum monthly payment
Sort them from high interest down to lowest interest.
If you choose to pay the highest interest debts first, make the minimum monthly payments on the lower interest loans, like your mortgage or car loan. Use any extra money you have to pay down the highest interest loan. This is probably going to be a credit card or payday loan. When it is paid off, you should close that account. Then apply the amount you were paying on it to the next highest interest debt until it is paid off.
Another strategy many people use is called the snowball method. Pay more on the card or debt with the lowest balance, and the minimum on all the rest. Close that account. Then make larger payments on the card with the next lowest balance, continuing until you are debt free.
Remember that these strategies will only work if you stop using those credit cards! Or at least only charge small amounts that can be paid in full every month.
Say you have a credit card balance of $2,000 and a minimum monthly payment of $30. If you pay just the minimum, it would cost you more than $4,400 in interest and take around 18 years to pay it off. By doubling the payment to $60, it would take four years to pay off. You’d save about 14 years and more than $3,600 in interest.
It is time to create a SMART goal! A SMART goal is Specific, Measurable, Attainable, Relevant, and Time-Based. Remember to prioritize, focus on one goal, then break it into smaller, manageable pieces. Maybe you can pay an additional $15 a month on a credit card until you get your balance down to zero. It is worth it!