budgeting

6 steps to pay off your debt

Est. 7 min read

Buried under debt? Have no idea how to get out? You’re not alone. If you’ve never tackled debt before (say, you’re in your early 20s), you might be struggling to come up with a roadmap for paying off your debt. But don’t worry–you’re not the first person to ever be in debt, and there are tons of strategies for getting rid of it. Regardless of whether you have credit card debt, student loans, auto loans, home loans, or any other kind of debt, these six steps will help you tackle your debt one dollar at a time.

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Step One: Don’t blame or shame.

Debt is more than just a financial burden–it’s an emotional burden as well. You might be thinking, “Hey, I don’t get emotional about money.” Maybe you don’t break down and cry every time you look at your credit card balance, but you do feel something, and that something is usually shame or anxiety. Our goal with step one is to get rid of that feeling.

Of course, that’s easier said than done, especially if you’re getting rid of debt as part of a couple. It’s easy to blame your significant other for bad spending habits or for making a bad financial decision years ago. It’s a lot harder to stop thinking that way and focus on moving forward.

Need help? Check out Carl Richards’ new book, The One-Page Financial Plan, which we reviewed earlier this month.

Step Two: Take stock of your debt.

No more guesstimates. You need to take stock of all your debt, whether it’s credit card debt, a personal or auto loan, or student loan debt. Calculate a concrete number. Some people find it helpful to write that number down on a sticky-note and put it somewhere that they’ll see it every day, like the fridge or a mirror. Others prefer a spreadsheet where they can also keep track of how monthly payments are bringing that number down. Find what works for you and stick with it!

Step Three: Create a budget.

If you don’t already have a budget, you need to make one. This can be one of the hardest things to do on this list because there’s one really big problem with most budgets: they’re aspirational. Instead of budgeting for how they actually spend, most people budget for what they want to spend. What does this mean? Say someone budgets $20 for coffee in a given month, but buys a $4 latte from Starbucks every morning on the way to work. That person is setting themselves up for failure!

People who set themselves up for failure usually fail, which only discourages them from budgeting and fixing their debt problem. So when you’re building your budget, be honest with yourself about how much you spend. That will help when it comes to Step Four.

To build a comprehensive budget, we suggest getting You Need A Budget, a budget app that’s available on almost every device. Their free online classes are designed to help people in a variety of financial situations, including debt. A (free) alternative to You Need A Budget is Mint.com.

Trying to find the perfect money management app? Check out our review of the top contenders.

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Step Four: Find extra money.

Aspirational budgets are out of the picture, but that doesn’t mean you shouldn’t try to cut back on your spending. Just like you need to take stock of your debt, you need to take stock of how much you’re spending every month and ask, “do I really need that?”

A common example that personal finance blogs throw around a lot is the price of a cup of coffee. “Look how much you can save by not buying a $6 latte!” But for a lot of people, that’s not enough or it’s just not helpful. Here are some non-obvious examples of things you could cut out of your routine:

  • Expensive monthly bills, like cable packages or newspaper subscriptions.
  • Magazine subscriptions.
  • Pedicures, manicures, expensive haircuts.
  • Takeout lunches or cafeteria lunches at work. (Take in leftovers from last night’s dinner, instead!)
  • Eliminate expensive junk food (with no nutritional value) from your diet.
  • Dinners and movies out. (One Netflix subscription can provide entertainment for the entire family for the cost of a single movie ticket.)
  • Get a library card instead of buying books.
  • Buy and sell clothes at Goodwill or other thrift stores.
  • Use coconut oil as a combination hair gel, conditioner, make-up remover, and moisturizer.
  • Grow indoor plants instead of buying air fresheners.
  • Use plastic shopping bags as trash liners.

Remember, the goal is not to take all of the fun out of your life. You should still try to enjoy your life as much as possible! The goal of a budget is to find a financially responsible way to do it.

Step Five: Pour all of your extra income into paying down debt.

If this seems like an obvious step, you’re right. But you shouldn’t just add a few extra bucks to each bill here and there. The smartest thing you can do is use something called the snowball method.

You know how a snowball builds and builds until it becomes half your size? You can do the same with your debt payment as well. Start by taking that list of all your debts and putting them in order from smallest to largest. Don’t worry about interest rate–we only care about the number on your balance sheet.

Starting with either the largest or the small debt (your choice), pour all of your extra money into paying down that debt while still making your minimum payments on all of your other debts.

Once you finish paying off that debt, take all of the money you were spending and apply it to the next largest debt. And here’s where we get into why it’s called the snowball method. Let’s say, for example, you’re spending $200 per month paying down a credit card, while also paying $50 minimum payment on another card. Once that first credit card is paid off, you can take that entire $200 and add it to the $50 minimum payment on the other card, for a total of $250 on that second card.

As you can see, the amount that you’re spending on each individual debt only grows and grows as you pay off bills, building like a snowball that crushes debt in its path.

You’ll read differing advice on whether to start with the lowest debt or the highest debt, but we think starting with the smallest debt makes sense. You’ll be able to pay off the small debt quickly, creating positive reinforcement and encouraging you to stick with the debt snowball.

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Step Six: Give your cards the cold shoulder.

You might be thinking, “Okay, I’m debt free, I’m going to do things smart this time. I’m closing every credit card account except for the one that I need and I’m paying that off every month.”

Good idea! Except for the closing the credit card account thing. Closing a credit card account will actually hurt your credit score (which should be starting to recover by now, by the way) in two big ways: it will lower the amount of your total credit and it will lower the average age of your accounts.

A better idea? Freeze your card in a block of ice that you keep in your freezer. That will prevent impulse purchases with your credit card while keeping it available for emergencies or more thoughtful purposes. As long there are no fees for keeping the account open (or a minimum interest charged per month), there’s no harm in keeping the card in your freezer.

Optional Steps: Balance transfers, lower interest rates, debt consolidation

If you have a credit card with a high interest rate, you may be able to transfer the balance onto one of your other cards for a lower interest rate. There are also credit cards that specialize in balance transfers, waiving the fee for new applicants and giving you an 0% intro APR. Read the fine print on offers before you jump in to anything, though.

You can also request a lower interest rate from your credit card company, though be aware that they are under no obligation to give it to you. However, if you get someone on the phone and explain your situation, you might find a sympathetic ear that will help you out.

If you have a lot of credit card debt and want to consolidate it under one loan, you could take out a personal loan. This might seem counter-productive. After all, what’s the point of paying off your credit cards if you just get another loan to replace it? One benefit of a personal loan is that you can establish a monthly payment that works for your budget. Another benefit is that the interest rates are usually lower. You’ll have to weigh your options and see if a personal loan makes sense with your financial situation, but with companies like Upstart and Earnest providing personal loans at competitive rates, it’s definitely something to consider.

If you’re having problems with your student loans, you can look into the various repayment plans available to see if you can reduce your monthly payment. You can also look into refinancing your student loans through your loan provider or a third-party.

Do you have a debt story?

We want to hear it. Leave your story in the comments below.

Photo: ff137

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Published on April 23, 2015

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Adam Cecil writes for PolicyGenius, a digital insurance brokerage trying to make sense of insurance for consumers. You can read more of his writing on his site.