Large credit card balances and other high-interest debts can prevent you from growing your wealth and reaching important goals — from a comfortable retirement to leaving a legacy for your children. But paying down debts may seem like a daunting task. Fortunately, there are techniques to make debt more manageable. Here are seven ideas:
1. Take inventory. Make a list of your debts, including their balances, interest rates, repayment terms (including any prepayment restrictions), fees and penalties. Armed with this information, you can determine which debts to tackle first and understand the consequences of nonpayment or late payments (for example, interest rate, fees and penalties, negative impact on your credit scores). Ideally, you’ll be able to make at least the minimum payments, but if not, this information will help you prioritize.
2. Create a budget. Budgeting is critical to managing your debt. Track your income and expenses, identify costs you can reduce or eliminate (such as nonessential purchases, entertainment, dining out and travel) and channel savings toward paying off high-interest debt.
3. Consolidate balances. If your credit is good, explore options for consolidating your credit card debt. Consolidation won’t reduce your debt, but by combining multiple credit card balances into a single loan (ideally with a lower interest rate) it can make the debt more manageable. Interest costs may be lower and replacing several monthly payments with one helps you get a handle on budgeting.
4. Apply for a balance transfer card. Like consolidation, a balance transfer won’t reduce your debt (and it typically requires good credit), but it can substantially slash your interest payments, making it easier to pay off. With a balance transfer, you move existing high-interest credit card debt to a new card with a lower rate. Many balance transfer cards offer promotional 0% rates for a specified time period. Be sure the card’s regular interest rate isn’t higher than your current rates — unless you’re confident you can pay off the balance during the promotional period. Also, be aware of any balance transfer fees.
5. Switch to the cash basis. To successfully pay down debt, you’ll need to stop using credit. In short, if you don’t have the cash you need for a nonessential item, don’t buy it.
6. Use the debt “avalanche” strategy. This can be a cost-effective strategy for getting out of debt. You pay as much as your budget allows on the debt with the highest interest rate while making the minimum monthly payment on lower-interest debts. Once the high-interest balance is paid off, move on to the debt with the second-highest interest rate, and so on.
7. Use the debt “snowball” strategy. By focusing on the highest-cost debt first, the avalanche strategy is the quickest way to get out of debt. But it takes time and discipline, so it’s not always the best strategy from a psychological standpoint. If you need the motivation that comes from seeing quick results, consider the snowball approach. Instead of focusing on the highest-interest debt, start by tackling the debt with the smallest balance, paying as much as you can on that debt and the minimum monthly payments on the others. Once the smallest debt is paid off, you redirect the amount you were paying on it to the next largest debt, and so on.
Any combination of these strategies should help you reduce debt and get back on the path of building wealth. Once you eliminate high-interest debt, be careful about accruing new debt obligations. The sooner you get into the habit of buying only what you can afford now — or with a relatively low-interest loan, such as a mortgage — the better for your long-term financial health.
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