Debt is an ongoing, stressful problem for millions of Americans. Learn about a few effective ways to prioritize debt management.
Debt impacts most people in the United States, with the average person holding tens of thousands of dollars to their name. Debt can lead to lots of stress, especially when you can see no easy way out.
According to Experian data, the average consumer holds $93,371 in debt. The largest debt category is mortgages, with an average of $220,380 held, followed by home equity line of credit (HELOC) at $39,556, student loans at $39,487, and auto loans at $20,987.
Debt becomes especially troublesome when interest rates are so high that making regular minimum payments doesn’t make a dent in the principal balance. Fortunately, there are ways to improve debt management and take action now.
Get serious about your spending
If you’re concerned about how much your debt has grown, it’s time to look at what’s going on with your spending. Buying a house is one thing, but excessive credit card or loan debt could mean you’re regularly spending too much on unnecessary purchases.
The first step is to look at all your monthly expenses, including housing, bills and utilities, food, car and transportation, insurance, savings, entertainment and shopping, and child or pet care. Look at areas with the highest expenses. Consider whether you can cut something out of your monthly budget, like buying designer coffee every day, shopping for items you don’t need, or entertainment.
It’s impossible to get out from under serious debt if you don’t look at how you’re spending and being honest with yourself about areas where you might be spending too much too often.
There are a few ways to motivate yourself to stay on budget. One approach is the envelope system method. For every expense category you have, put the exact amount of money you need in that envelope. When the money is gone you can’t spend anything else in that category, such as clothes shopping, for that month.
Another method is the 50/30/20 approach, in which 50% of your expenses are necessary, 30% are discretionary, and 20% are reserved for your savings and your debt payments. Or the zero-based budget method, where you create your budget so that the total of all your monthly expenses equals your monthly income exactly, with zero left over.
Create a strategy to pay off one debt at a time
Aside from stricter budgeting, you need to figure out how to pay off the debt you already have. There are a few ways you can address this, but a great approach to keeping yourself motivated is to focus on paying off one debt at a time. This means any money you have left over each month goes to one debt, on top of the minimum payments you’re already making.
For example, maybe you have a credit card debt of $12,000 with an 18% interest rate and a personal loan of $5,000 with an 8% interest rate.
One approach is to tackle the debt with the highest interest rate first. The benefit of this method is that you’ll save more money in the long run, since the longer you hold a balance on that debt, the more you’ll pay. Many people view this route as the more logical one.
You’re putting more of your money into paying off your credit card debt in the example above, since it has a higher interest rate. This method is also known as the debt avalanche repayment plan.
The other approach is to pay off the debt with the lowest balance first, regardless of interest rate. Even though you’re not going to save money on avoiding that higher interest rate, this method works well for some people. It’s one less debt you have to worry about, it takes less time to pay off, and it can be very rewarding and motivating to check something off your list.
In our example, you’d put more money toward the personal loan first, then focus on the credit card debt. This approach is called the debt snowball repayment plan.
In either type of payoff strategy, remember you’ll have to continue making minimum payments on all debts you owe.
Once you’ve run your budget numbers, you may be hit with the realization that you just can’t afford to pay off your debt with your current income. Even if you can make the minimum payments, the interest rates might be too high to ever lower the principal balances.
This scenario is when consolidation might be the best option. If you have multiple loans or credit card balances, you may be able to consolidate them so you only make one payment and get a lower interest rate.
You may qualify for a credit card offer that gives you a balance transfer option with 0% interest. You can transfer your high balances to this card and you won’t have to worry about interest for the set promotional period.
Another option is a fixed-rate debt consolidation loan, where you pay off your debt with a new loan with a lower interest rate and pay back that loan over time. Home equity loans or loans against your retirement savings plan may also be options for you.
If you’re dealing with student loans with high interest rates, you may be able to apply for a different repayment plan, such as the income-based plan, which will consolidate all your student loans and lower your monthly payment.
Why focus on emergency savings?
Contributing to an emergency savings account is a great way to avoid getting into a lot of debt, or more debt than you already have. When you’re hit with a major expense, like a home repair or medical bill, you won’t have to go into debt to pay for it if you have enough in your emergency savings account.
Unexpected expenses are just a part of life, so the sooner you can start saving, the better. Many employers are now offering sponsored emergency savings accounts to help employees save, so check with your employer to learn about any such opportunities they may offer.
SecureSave is a workplace savings program that helps you build enough emergency savings to cover unexpected financial hardships. Learn more by contacting SecureSave today.