Debt Basics

“You want a hot body? You want a Bugatti? You want a Maserati? You better work bitch.” – Britney Spears, “Work Bitch”

In debt? You’re not alone. The average household has about $15,000 in debt – not including mortgages and student loans. But! Just because everyone is doing it does not make it cool. Paying off your credit card debt takes hard work and resolve. If it were easy, everyone would do it. But you’re not everyone – and you’re gonna do it! But how?

•          Get your free credit report from the government (you are allowed one per year) from this site: http://www.annualcreditreport.com. It is the only federally authorized free credit report site and it just takes a minute.

•          Go through it and highlight any adverse entries on the report. If you are in debt, there might be a lot.

•           Starting with one credit reporting site (there are three: Experian, TransUnion, and Equifax), go online and file a dispute for any negative entry. You have a finite amount of reasons that you may choose for why something is in dispute – maybe it’s not an amount you agree to or maybe the debt is old (over 7 years), maybe you’ve never even heard of the company! That happens. Dispute everything that you can. The company that holds the debt has 30 to prove that you are incorrect; otherwise the entry is stricken from your report.

•           During this 30 days, do your absolute best to curb all spending. No lunches out, no drinks with friends, no new clothes. It will be hard, but worth it. It’s just one month – you can do it. Take all of the money you would have normally spent that month and put it into a savings account. This little safety net will stop you from using your credit cards when mini-emergencies happen. And they will happen.

•        Take a look at what’s left and call the owners of the debt. See if they’ll work with you to lower the interest rate and/or monthly payment. They want your money and will take it however they can get it. Don’t forget that.

Next up is tackling the debt. There are two schools of thoughts here: You can either go from the smallest to largest amount owed OR largest to smallest interest rate. Personally, I found it to be very gratifying to actually pay something off, so I push for the amount-based pay-off. So! Make a list of all your debts from smallest to largest. List minimum payments and totals due. 

It might be a really long list, and that’s ok. It won’t get better if you ignore it.

If you haven’t done it already, now is a perfect time to make a budget. Check out the basics here. LINK TO BUDGET PAGE

It might be a little unnerving to see that you are spending more than you make each month, but until you lay it all out like that you might not have noticed. Hence the credit card debt.

As far as this example is concerned: The good news is that you are making your minimum payments, the bad news is that it doesn’t matter. Compound interest is a helluva drug. The minimum payment due just isn’t going to cut it if you really want to ditch this debt.

Let’s say you’ve made budget cuts (packing lunches, going to happy hour only, shopping with coupons, thrifting clothes, etc.) and you now have $475 each month to pay off your debt. Here’s what you do with it:

The first month, just make your minimum payments like usual – you still need to get comfortable with your budget cuts and need to make sure your numbers all work out. For the next month, make all of your minimum payments AND apply your surplus to the smallest balance. Once it’s gone (which will be sooner than you think!), roll all the money you were paying to that smallest debt onto the next one, systematically crushing it. Dave Ramsey calls this the “Debt Snowball.”

Obviously, this is a very simple chart that doesn’t take interest into account, but you get the idea. 

The feeling of paying things off is amazing – you’ll become addicted. Once you see that you’re making so much progress with the little numbers, you’ll start digging around to find ways to pay off the big ones. DVDs you aren’t watching? Sell them and put the money towards your credit card! A quiet night in with a library book looks pretty good when you can put the savings towards a tangible goal.

You might be thinking Ok, so it’s going to take more than a year to pay all of this off!? Baloney! That’s too long! The year is going to pass anyways. Wouldn’t you rather be in a better position this time next year? In this example, you would go from about $7000 in debt to about $2000. Without making the budget adjustments and larger payments, your total would be close to $9000! And that is assuming that you had stopped all credit card use.