How to pay off debt

How to Pay Off Debt in 9 Simple Steps

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Debt can be overwhelming. Unfortunately, when it comes to paying it off, there are no magic bullets. But if you follow the simple strategies below, you will ensure that your debt gets paid off as quickly as possible. The steps below (which are summarized at the bottom of the page) will be particularly useful for paying off credit cards. However, the same principles apply to other forms of debt, such as student loans, auto loans, or even mortgages.

How to pay off debt

Debt is rising at an alarming pace. As of 2017, the average U.S. household owed $15,654 in credit card debt. And that doesn’t even take other forms of debt into account, like student loans, auto loans, or mortgages. No matter what type of debt you are dealing with, the key to making these principles work is a strong commitment to being debt free. In fact, making a firm decision to be debt free is often the hardest step. Once you have made this decision, the rest is simply a matter of finding an effective strategy.

1. Figure out exactly how much debt you have

How to pay off debt: figure out how much debt you have
How to pay off debt: the first step is to figure out how much debt you have

Before you come up with a plan of action, you should know exactly how much debt you have, as well as the interest rate charged by each account. Doing so will allow you to track your progress, which is critical. As your debt shrinks month after month, your brain will feel rewarded which will encourage you to speed up the process. So let’s get started.

  1. Make a list all of your debts as well as the amount you owe to each one.
  2. Add the interest rate for each account.
  3. Write down your total balance for your checking and savings accounts.

How big of a “financial cushion” do you have? Do have enough money to cover an emergency? If not, then go to Step 2 below. Otherwise, you can skip to Step 3.
You may also want to use Bankrate’s credit card payment calculator to figure out how long it will take you to pay off your credit cards based on different monthly payments. This could be a real eye-opener if you’ve only been making minimum payments.

2. Establish an emergency fund

How to pay off debt: establish an emergency fund
Establish an emergency fund

If you find yourself regularly reaching out for your credit card to cover unexpected expenses, then your first step should be to stop the bleeding by establishing an emergency fund. We recommend saving a minimum of $500 to $1,000. There is nothing more discouraging than making progress with your debt repayment only to have to take on more debt because of lack of liquidity. This lack of cash reserves is one of the biggest reasons people keep on falling back into debt even after paying it off. Once you are debt free, you’ll want to build a more substantial emergency fund (see Step 9 below).

3. Create a realistic spending plan

How to pay off debt: Create a realistic spending plan
Create a realistic spending plan

Once you have established an emergency fund, it is time to figure out how much money you have to work with. The only way you can get out of debt is if your income exceeds your expenses and you have a surplus at the end of each month.

  1. Write down your after-tax monthly income.
  2. Make a list of all your essential living expenses, such as rent or mortgage payments, car payments, utilities, groceries, etc.
  3. Make a list of non-essential expenses. This would include things like your Netflix subscription, eating out, entertainment, etc.

Now total your monthly expenses and subtract that amount from your monthly income. Hopefully, there will be a surplus. In addition, the surplus should allow you to make more than minimum payments on your accounts. If not, you will either need to lower your expenses (see Step 6 below) or increase your income (see Step 7).

4. Pick your poison: debt snowball vs. debt avalanche

Assuming that you have multiple sources of debt (each one with a different balance and interest rate), you’ll want to select the best method to pay them off. You could, of course, increase the amount you pay to each account and that would certainly help you get out of debt faster. However, there are two methods that are widely recommended by personal finance experts.

The first one is the “debt snowball” method, which was popularized by Dave Ramsey. It consists of attacking your loans from the smallest balance to the largest balance and not taking interest rate into account. So you would apply the largest payment you can afford to the loan with the smallest balance while making minimum payments on all your other loans. Once that loan is paid off, it will free up some money which can then be applied towards the loan with the second highest balance and so on.

The second method is the “debt avalanche” in which you pay off your loans from the highest interest rate to the lowest interest rate. So if you have three loans with say, 17%, 12%, and 8% interest, you would make the largest payments to the 17% loan while making minimum payments on the other two loans. Once the first loan is paid off, you would apply maximum payments to the 12% loan. You would do this until all your loans are paid off.

Which method should you pick?

Avalanche or Snowball?
Debt avalanche or debt snowball?

The advantage of the debt snowball is that it gives you a “quick win” by paying off the debt with the smallest balance (hopefully in a few short months). This can offer some much-needed encouragement, especially if you feel overwhelmed with the amount of debt you owe.

On the other hand, mathematically-speaking the debt avalanche is the most efficient way of paying off your loans, as it will minimize the amount of interest you end up paying. If you would like to see how much money you could save by using the debt avalanche vs. the debt snowball, you can enter your loan information on this online calculator.

While it is true that the debt avalanche will likely save you some money in the long run, studies have shown that people are more likely to stick to the debt snowball method. If you have tried getting out of debt multiple times in the past without success, you should probably try the debt snowball method. On the other hand, if the debt avalanche could save you a significant amount of money, then you should consider that method instead.

No matter which method you pick, the key is to focus on one account at a time while making minimum payments on your other loans.

5. Ask for a lower interest rate

Ask for a lower interest rate
Ask for a lower interest rate

Try calling your credit card companies to see if they would be willing to lower the interest rate on your accounts. This can be especially effective if you have received any offers in the mail for a balance rate with a lower interest rate. You could bring this up to the customer service representative. Credit card companies want your business and they might be willing to match another company’s interest rate rather than losing you as a customer. The key is to be persistent and ask politely.

You may want to call your credit card companies every few months to see if they would be willing to lower your rate. Mention any competing offers you might have and ask if they would be willing to at least match it. If the customer service representative says “no”, you could try speaking with a manager. They may or may not be willing to work with you. Either way, it doesn’t hurt to ask.

6. Lower your spending

Lower your spending
Lower your spending

One way to speed up your debt repayment is by lowering your expenses. When you look at your list of non-essential expenses from Step 3, are there any items that you rarely use and yet still pay for each month? For example, are you making full use of your gym membership? If not, consider eliminating it, at least until your debts are paid off. Eliminate any expenses that do not bring you pleasure or that you are not using.

One of the biggest sources of wasted money is eating out. The average U.S. household now spends over $3,000 a year on dining out. Most restaurants charge a 300% markup on the food they serve so you can save a lot of money by cooking at home. Unfortunately, many people don’t like (or don’t know how) to cook and they are paying a big price for it. If you are intimidated by cooking, you could try one of the many books that feature five ingredients or less. Another great way to save time and money on food preparation is by cooking in a slow cooker. There are hundreds of delicious slow cooker recipes out there. You may not want to eliminate dining out completely but at a minimum, you may want to consider bringing lunch to work which could save you $2,500 a year (assuming $10 per meal).

More ways to save

One way to save money on groceries is by using coupons. While many people don’t like to “waste time” going through coupons, they are paying for the convenience. Your Sunday newspaper, as well as websites like coupons.com, can help you find coupons for products that you are already buying. Spending a few minutes each week looking for coupons could free up additional money to pay off your loans faster.

Two other areas that can also save money are your phone bill and car insurance. Chances are you are paying too much for cell phone plan and you can probably save money by switching to a cheaper plan.

You should also shop for cheaper car insurance at least once a year. Insurance companies know that most people don’t like to shop around and they take advantage of this fact by regularly raising prices for no apparent reason.

7. Increase your monthly surplus

Increase your monthly surplus
Increase your monthly surplus

Another way to speed up your debt repayment is by increasing your monthly income. That may or may not be an option at your job. But here are some ways to quickly increase your monthly surplus:

  1. Start a side hustle. Here is a list of ideas you may want to consider. In addition to earning you extra cash, a side hustle could potentially turn into a full-time business for you.
  2. Sell things you don’t need anymore. There are plenty of options for that. Many people get started by selling things like clothes, books, or electronics on eBay. Another popular option is LetGo.
  3. Get a side job. This could potentially be more time-consuming than the first two options but it is certainly worth considering and there are many options available. Here is a list to give you some ideas.

8. Track your progress

Track your progress
Track your progress

Paying off debt can take months or even years and you are likely to run into unexpected challenges along the way, so it’s important to stay motivated. One way to keep your motivation high is to track your progress every month. We recommend using a spreadsheet and listing your loans, the amount owed on each account, as well as your total debt. You would then update the spreadsheet on the first day of every month. Once a loan is paid off, cross it off your list. Keep this list somewhere you can see it.

At first, it will be like watching paint dry. But once your first loan is paid off, you will start building momentum as you start attacking your next loan. Each time a loan is paid off, you’ll be able to afford larger and larger payments on the next one.

9. Expand your emergency fund

How to pay off debt
Congratulation! You are debt free.

Now that you have paid off your debts, it is time to celebrate! build a more substantial emergency fund in order to ensure that you never fall back into debt.

SUMMARY: How to pay off debt

  1. Figure out exactly how much debt you have.
    • Make a list all of your debts as well as the amount you owe to each one.
    • Add the interest rate for each account.
    • Write down your total balance for your checking and savings accounts.
  2. Establish an emergency fund.
  3. Create a realistic spending plan.
    • Write down your after-tax monthly income.
    • Make a list of all your essential living expenses, such as rent or mortgage payments, car payments, utilities, groceries, etc.
    • Make a list of non-essential expenses. This would include things like your Netflix subscription, eating out, entertainment, etc.
  4. Pick either the debt snowball or the debt avalanche method and then stick with it.
  5. Ask for a lower interest rate.
  6. Lower your spending.
  7. Increase your monthly surplus.
  8. Track your progress.
  9. Expand your emergency fund.

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How to Pay Off Debt in 9 Simple Steps
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How to Pay Off Debt in 9 Simple Steps
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Are you wondering how to pay off debt? This step-by-step guide will show you how to get out of debt faster and never fall back into it again.
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One comment

  1. I think the article is very good. Any one in debt should consider the the steps outlined seriously.

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