How to Get Out of Debt

Being in debt can feel like you’re stuck in quicksand. The harder you try to get out the more it pulls you in until you’re totally exhausted. If you’ve ever been up to your eyeballs in debt you’ll know exactly what I mean.

Before I decided to write this article, I googled how to get out of debt. What I found surprised me… Many generic articles full of regurgitated information on how to get out of debt. Most of them are written by authors who have no firsthand knowledge or experience on the topic.

Tips on how to get out of debt

Are you being harassed on a daily basis by debt collectors? Feeling so stressed you’re exhausted all the time? I’ve been there, and can assure you it’s not the end of the world. There’s light at the end of the tunnel.

With the right help and support you can get out of debt faster!

It doesn’t matter whether you’re in a bad financial situation due to the Covid-19 pandemic, had unforeseen expenses, or simply spent too much money. The following tips and advice can help you get out of debt.

12 Tips on How to Get Out of Debt in 2021

#1. Have a Positive Mindset

Recommended for: Everyone.

This is the most important tip I have to share with you. And it’s also the most difficult one to master. A negative mind will never give you positive results.

If you approach debt with the mindset of “I can’t get out of debt” you face an uphill battle. Rather ask yourself “How can I get out of debt?” This will allow you to find solutions you would not have explored otherwise.

Accept your financial position. Ignoring it won’t help. But worrying about it won’t help either. The calmer you are, the easier it will be to find the best solutions. When you’re in a state of panic, you can’t see the forest for the trees.

Knowing there are things you can do to get out of debt will allow you to focus on finding solutions. Don’t waste your time worrying and spinning around in circles.

Note: One of the best ways to change your mindset is to focus on everything you’re grateful for. Be grateful for the roof over your head, the food in your tummy, your clothes, etc. We ALWAYS have something to be grateful for! Focus on what you have instead of what you don’t have.

#2. Make a List of Your Secured vs Unsecured Debt

Recommended for: Everyone.

Start by differentiating between secured vs unsecured loans.

Secured loans are loans such as your mortgage and car loan where you’ve pledged the asset financed as collateral for the loan. If you fail to keep up with your mortgage or car payments you’ll face foreclosure or repossession respectively.

Unsecured loans are typically personal loans and credit card debt where you didn’t pledge an asset as collateral for the loan. This is why interest rates on unsecured loans are much higher than on secured loans.

Lenders are more flexible if you can’t pay an unsecured loan than a secured loan. If you’ve pledged the asset you financed as collateral, you have less leeway than when they have no collateral.

Based on the above, if you must choose between paying your car or your credit card, rather pay your car. (If you follow all the tips and advice in this article you shouldn’t have to make this type of decision)

Your list should contain all your loans and credit card debt. Next to every lender, write down your current balance, minimum monthly payment, and interest rate. This should give you a good overview, which is essential if you want to get on top of the situation.

#3. Learn How to Budget

Recommended for: Everyone.

One of the reasons why people get stuck in debt is because they aren’t in control of their finances.

If you’re struggling to get out of debt, chances are at least one of the following will apply to you:

– You don’t have a budget.

– You’re not budgeting accurately or correctly.

– You’re not using your budget as a financial planning tool.

Budgeting is the process of finding a balance between incoming funds and outgoing funds. When there’s no balance, such as when you’re spending too much money, you fall into debt.

Budgeting is the cornerstone of personal finance. It will be very difficult for you to get out of debt without a budget. Refer to how to make a budget for detailed tips and advice that are easy to implement.

#4. Pay More Than the Minimum Required Amount

Recommended for: Everyone.

Paying more than your minimum payment due is a smart idea. This is especially the case for credit cards as they have the highest interest rates.

Here are the main reasons why you should pay more, if at all possible:

1. Get Out of Debt Faster

The minimum monthly payment on a credit card is typically 3% of your outstanding balance. If you only pay the minimum amount every month it will take you many years to pay it off!

For example: Assume you spend $5,000 on your credit card and the interest rate is 18%. If your minimum payment is 3% (an initial monthly payment of $150) it’ll take you 198 months to pay it off. That’s 16 years and 6 months! Your total debt payoff will be approx. $9,698.44!

2. Save Money

Every cent you pay over and above your minimum monthly payment goes towards the principal amount you owe. By paying more you’ll save a lot of money on interest. 

If you can immediately pay off one credit card, use the money you save to pay off other debts. Just make sure your lender doesn’t charge you a prepayment penalty fee.

For example: On $5,000 at an interest rate of 18% with a 3% minimum payment, you’ll pay $150 every month or $1,800 annually. Saving $1,800 is like getting a 36% annual return on a $5,000 investment! Use this saving to pay off other credit cards faster.

3. Reduce Your Revolving Utilization Ratio

Your revolving utilization ratio (also called credit utilization ratio) measures how much you owe on a credit card compared to your credit card limit. Credit utilization makes up about 30% of your credit score so it’s a very important factor.

A high credit utilization ratio can result in a lower credit score, making it more difficult for you to borrow money. For example, when your credit cards are maxed out it’s a red flag for lenders. It creates the impression you’ve overextended yourself and may be having trouble paying off your debt.

According to Experian:

“It’s wise to always keep your total ratio and the ratio for each credit line below 30% if possible. That’s because it isn’t the total amount of debt that matters, but the percentage of available credit that you’re currently using that really matters.”

#5. Debt Snowball vs Debt Avalanche vs Pro Rata Method

Recommended for: Everyone.

Which loan or credit card should you pay off first? The one with the smallest balance or the one with the highest interest rate? Or, should you pay extra money on a pro rata basis to all of them?

There are conflicting views on this but regardless of what method you prefer, one thing is for sure. It’s always good to pay more than your minimum payment. But don’t pay more on one loan if by doing so you can’t afford the minimum payment on another loan.

Pro Rata Method

Pro rata (often called prorated) is a Latin term which means whatever is being allocated will be distributed in equal portions.

For example, assume you owe $10,000 on four credit cards.

Card #1. Balance of $1,000 at 17% interest – 10% of credit card debt.

Card #2. Balance of $2,000 at 18% interest – 20% of credit card debt.

Card #3. Balance of $2,000 at 19% interest – 20% of credit card debt.

Card #4. Balance of $5,000 at 20% interest – 50% of credit card debt.

You decide to pay $500 extra every month towards your credit card debt. It will be prorated as follows:

Card #1. $500 x 10% = $50 extra payment.

Card #2. $500 x 20% = $100 extra payment.

Card #3. $500 x 20% = $100 extra payment.

Card #4. $500 x 50% = $250 extra payment.

Note: Some people will just take the $500, divide it equally between the four cards, and pay $125 extra per card.

This method isn’t necessarily bad but will take you longer to get out of debt than the other two methods. I therefore don’t recommend it.

Debt Avalanche Method

If you follow the debt avalanche method you pay off the debt with the highest interest rate first. Next you pay off the debt with the second highest interest rate, then the third highest interest rate, until you’re debt-free. It’s normally applied to revolving credit, typically credit cards.

It’s a 5-step process:

Step 1. List your debt in order from the highest interest rate to the lowest interest rate.

Step 2. Decide how much extra you can pay every month.

Step 3. Pay off the debt with the highest interest rate first.

Step 4. Add the total monthly payment of the debt you’ve just paid off to the debt with the next highest interest rate and pay it off.

Step 5. Continue until all your debt has been paid off.

Example:

Assume you owe $10,000 on four credit cards. The minimum payment amount is 3% per month, so $300 in total. You decide to make an extra payment of $500 every month.

Card #1. Balance of $5,000 at 20% interest – $150 minimum payment

Card #2. Balance of $2,000 at 19% interest – $60 minimum payment

Card #3. Balance of $2,000 at 18% interest – $60 minimum payment

Card #4. Balance of $1,000 at 17% interest – $30 minimum payment

Pay off card #1: $150 minimum payment + $500 extra payment = $650 per month. Once paid off, add the $650 to your payment for card #2.

Pay off card #2: $60 minimum payment + $650 carried over = $710 per month. Once paid off, add the $710 to your payment for card #3.

Pay off card #3: $60 minimum payment + $710 carried over = $770 per month. Once paid off, add the $770 to your payment for card #4.

Pay off card #4: $30 minimum payment + $770 carried over = $800 per month. Continue your monthly payments until it’s paid off.

Debt Snowball Method

The debt snowball method is where you pay off the debt with the smallest balance first. Next you pay off the debt with the second smallest balance, then the third smallest balance, until you’re debt-free. It’s normally applied to revolving credit, typically credit cards.

It’s a 5-step process:

Step 1. List your debt in order from the smallest balance to the highest balance.

Step 2. Decide how much extra you can pay every month.

Step 3. Pay off the debt with the smallest balance first.

Step 4. Add the total monthly payment of the debt you’ve just paid off to the debt with the next smallest balance and pay it off.

Step 5. Continue until all your debt has been paid off.

Example:

Assume you owe $10,000 on four credit cards. The minimum payment amount is 3% per month, so $300 in total. You decide to make an extra payment of $500 every month.

Card #1. Balance of $1,000 at 17% interest – $30 minimum payment

Card #2. Balance of $2,000 at 18% interest – $60 minimum payment

Card #3. Balance of $2,000 at 19% interest – $60 minimum payment

Card #4. Balance of $5,000 at 20% interest – $150 minimum payment

Pay off card #1: $30 minimum payment + $500 extra payment = $530 per month. Once paid off, add the $530 to your payment for card #2.

Pay off card #2: $60 minimum payment + $530 carried over = $590 per month. Once paid off, add the $590 to your payment for card #3.

Pay off card #3: $60 minimum payment + $590 carried over = $650 per month. Once paid off, add the $650 to your payment for card #4.

Pay off card #4: $150 minimum payment + $650 carried over = $800 per month. Continue your monthly payments until it’s paid off.

Debt Avalanche Method or Debt Snowball Method?

From a purely financial perspective, the debt avalanche method is the best method. You’re paying off your debt with the highest interest rate first, which makes sense.

However, from a psychological perspective, the debt snowball method is the winner. It does give you a huge confidence boost when you’re able to pay off your first credit card. And it motivates you to carry on.

My recommendation: You can’t go wrong following either the debt avalanche method or the debt snowball method. From personal experience, you’ll see results faster if you pay off small credit cards first.

Update: As much as I like the debt snowball method, it doesn’t differentiate between revolving debt such as a credit card and installment debt such as a car loan. For this reason, I have come up with a new method, called the debt snowblower method that prioritizes revolving debt. It is in my opinion the best way to pay off debt.  

#6. Ask Your Lender for a Lower Interest Rate

Recommended for: Anyone who has a fair and above credit score.

One of the best ways to reduce your debt burden is to ask your lender for a lower interest rate. It’s often overlooked or not considered as an option as many people think the answer will be no. Lenders are often willing to accommodate you if you approach them!

The better your credit score, the more likely it will be for a lender to agree to lower your interest rate. Even if you don’t have a great credit score, you have nothing to lose!

Don’t wait until your account gets handed over to a debt collector before you reach out to the lender. The earlier you act, the better!

Just tell your lender you find their interest rate very high and ask if they can assist you. Mention that you’re very happy with them but will consider moving to another lender if they can’t assist you.

Banks don’t like to lose clients, and getting new clients isn’t easy. It’s hard to convince someone to close their accounts and move to another bank. Banks know this. It’s much cheaper for them to retain a client than it is to find a new client.

There’s an old English proverb that says: “You can catch more flies with honey than with vinegar.” It means it’s easier to get what you want by being friendly and polite rather than rude and arrogant. Approach your lender with a positive mindset.

#7. Take Out a Debt Consolidation Loan

Recommended for: Anyone who has a good to excellent credit score.

Debt consolidation gives you the ability to take out a loan to pay off all your unsecured debt such as credit cards. Instead of paying off various credit cards, you only have to pay off one loan.

You can save interest, and get out of debt faster, by consolidating your unsecured debt into a single loan. It’s typically structured as a personal loan.

There are a couple of institutions, besides your local bank, worth considering. They are:

SoFi

SoFi Debt Consolidation

You can use a personal loan from SoFi to consolidate your credit card debt.

They offer instant prequalification, no origination fee, no annual fee, and no late fees.

Amount: $5,000 – $100,000

Term: 3 years – 7 years

Interest rate: Varies depending on credit score

Prosper

With Prosper you can receive your money in as little as 3 days after accepting their personal loan offer.

Amount: $2,000 – $40,000

Term: 3 years or 5 years

Interest rate: Varies depending on credit score

Credible

Credible Debt Consolidation

Credible works a bit differently from SoFi and Prosper. You can’t apply for a personal loan with them.

Credible provides you with personalized loan offers from various lenders, including SoFi and Prosper. It gives you the opportunity to compare lenders before making a decision.

#8. Transfer Balance to a 0% APR Credit Card

Recommended for: Anyone who has a good to excellent credit score.

Consider transferring your credit card debt to a new credit card that offers a 0% APR. There are several credit cards that offer 0% interest and no fees for 6 months – 20 months on balance transfers. It’s a great opportunity to pay off as much debt as possible while it’s interest free.

Note: Most lenders will charge you a balance transfer fee upfront. This is often referred to as an origination fee and is typically around 3% of the balance you’re transferring.

With some credit cards the special 0% APR only applies to purchases and not balance transfers. All of the below credit cards accept balance transfers. 

U.S. Bank VISA Platinum Credit Card – 0% APR for 20 months.

Citi Diamond Preferred Credit Card – 0% APR for 18 months.

Citi Double Cash Credit Card – 0% APR for 18 months.

Discover it Cash Back Credit Card – 0% APR for 14 months.

Discover it Chrome Credit Card – 0% APR for 14 months.

Bank of America Cash Rewards Credit Card – 0% APR for 12 months.

Alliant VISA Platinum Rewards Credit Card – 0% APR for 12 months.

#9. Negotiate a Debt Settlement Agreement

Recommended for: Anyone who has a very poor credit score.

A debt settlement agreement can allow you to “settle” your unsecured debt for much less than you owe. In some cases you can reduce your debt by up to 50% by making a lump sum payment. Normally you won’t negotiate directly with your creditor but will work through a third-party company.

Most creditors will only offer you a debt settlement or consider a debt settlement proposal from you if:

1. The debt is unsecured.

2. You have a very poor credit score.

3. Your account goes to collections.

4. They’re worried about not getting their money back.

5. Taking legal action against you may not be worth it.

The obvious advantage of debt settlement is you can save a lot of money! That’s if you can afford to settle a large chunk of debt at once, or save up for it.

Note: Make sure the remaining balance won’t be sold to a third-party. The slate isn’t always wiped clean when you have a debt settlement agreement. This is where a third-party acting on your behalf (that you’ve appointed) can help you a lot.

The two main disadvantages of debt settlement are:

1. It can have a negative affect on your credit score for up to 7 years.

2. Cancelled debt of $600+ is treated by the IRS as taxable income.

Institutions that can assist you in concluding a successful debt settlement, include:

Accredited Debt Relief

Debt settlement is only one of the many services Accredited Debt Relief offers. They offer a free consultation to get to know you better, and will create a personalized debt relief solution for you.

Guardian Debt Relief

Guardian Debt Relief

Guardian Debt Relief offers a debt negotiation program with no upfront fees. You can turn all your unsecured debt into one low monthly payment and be debt-free in 24 to 48 months. You need to have at least $10,000 in unsecured debt to participate in the program.

CuraDebt

CuraDebt

CuraDebt has been helping people (and small businesses) since 2000 to resolve their debt issues. They have a lot of experience in negotiating debt settlements with creditors, and also offer other debt-relief solutions. They offer a free consultation.

National Debt Relief

National Debt Relief

National Debt Relief is a top rated debt consolidation company. They offer various debt-relief services including negotiating debt settlements with your creditors. They aim to help you pay significantly less on your credit cards and be out of debt in about 24 – 48 months.

#10. Cut Your Expenses

Recommended for: Everyone.

Cutting expenses can be difficult, especially from a psychological perspective. If you feel you’re depriving yourself it can be difficult to keep it up, and it can lead to other problems.

To make this process easier, it helps to objectively review your fixed vs variable expenses, and your needs vs wants.

Fixed Expenses vs Variable Expenses

Fixed expenses remain the same month after month, such as your mortgage, rent, or car payments. Although they may seem cast in stone, they’re worth evaluating. For example, look for a cheaper place to rent, or buy a cheaper car.

Variable expenses vary from month to month. Examples include the money you spend on groceries, going to restaurants, and entertainment. Normally it’s easier and faster to cut your variable expenses than your fixed expenses.

Needs vs Wants

Knowing the difference between needs and wants can help you a lot to cut your expenses.

Needs are essential items for your survival, or to keep up your standard of living.

Wants are non-essential items that may, in your opinion, make life more enjoyable.

Wants may be non-essential, but that doesn’t mean they don’t have a rightful place in your life. So I am not suggesting you cut out all your wants. The key is finding the right balance between your needs and wants.

Note: Truebill has an app that can help you spend more wisely, manage subscriptions, reduce your bills, and have more control over your finances.

#11. Earn More Money

One of the best ways to get out of debt is to earn more money. Don’t be shy to ask your employer for a raise. If your employer isn’t willing to give you a raise, consider looking for another job or even a second job.

My personal recommendation is to start your own business on a part-time basis and make money online. I’ve covered some of the best ways you can make money online in another article. It will take time and hard work but it can be very fulfilling and financially rewarding!

Note: Stay clear of get-rich-quick schemes. If it sounds too good to be true it normally is too good to be true. Unfortunately there are many people who prey on others who they know are vulnerable and desperate.

#12. Stop Creating More Debt

Many people are compulsive shoppers. The moment they have money to spend, or have available credit, they start spending.

If you don’t have any self control over your spending habits you’ll never get out of debt. Even if you try to pay off your debt, unless you stop creating more debt, you’ll be stuck in a downward spiral.

Here are some things that can prevent you from creating more debt:

  • Have a budget and stick to it – Be in control of your finances.
  • Avoid using store cards – They’re designed to make you spend more money and carry the highest interest rates.
  • Cut up your credit card – Not having a credit card in your wallet will reduce the temptation of paying on credit.    
  • Pay cash or use a debit card – Whenever possible, use cash or a debit card to pay for purchases.
  • Sleep over it – If you’re tempted to buy something you don’t really need, don’t buy it on the spur of the moment. Take time out to consider it and never allow yourself to be pressurized.
  • Delay big item purchases – Thinking of buying another car or a new television? If at all possible, delay purchases that will only get you further in debt.
  • Get the support from your family and friends – You need the support of your family if you want to get out of debt. And don’t hesitate to tell your friends you’re working on getting out of debt. Chances are they would also like to get out of debt and if they’re good friends you can support each other.

Conclusion

Paying off debt is one of five personal finance areas covered by xUSD that I believe everyone should focus on.

Struggling to get out of debt can be very stressful. It can have a negative impact on your relationship, your family, and your health. By following the 12 tips discussed in this article, you can significantly improve your financial situation.

Not all of the tips will apply to you, but most will. Try to use as many of the tips as you can to get out of debt faster.

When dealing with creditors or debt collectors, always keep detailed records. When talking over the phone, make a note of the person’s name, contact details, date and time, and what was discussed. Follow up with an email confirming what was discussed and agreed upon.

All agreements should be in writing (ask for it) and keep proof of payments made.

The longer you wait to get your finances in order, the more difficult it’ll become to get out of debt. Don’t wait until you’re over your head in debt. But even if you are in over your head, ignoring your debt won’t make it go away. Take action now!

And remember, being stuck in debt isn’t the end of the world. Even if you can’t see a way out right now, or even if it will take you years to get out of debt… Many people have done it and so can you!

FAQs

Does cutting up a credit card hurt your credit score?

Cutting up a credit card has no impact on your credit score as long as you leave your account open. If you close your account it will affect your credit utilization ratio, which measures how much credit you have left.

By closing your account it will show you have less available credit and this may hurt your credit score.

Why is debt bad?

Debt isn’t always bad. It can be necessary to finance your business, the roof over your head, or the car you need to get to work. But debt that isn’t carefully managed can quickly get out of control, and can cause financial hardship. 

Certain types of debt, such as credit cards, carry a lot of interest that can take years to pay off. It can make the item you purchased a lot more expensive than it’s worth.

When can a creditor report my late payment?

A creditor can report your late payment to the credit bureaus once you’re 30 days behind.

When do late payments fall off my credit report?

Late payments are removed from your credit record 7 years after the original delinquency date. The original delinquency date is the date of your first late payment or non-payment of an account.

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xUSD founder - Casper du Toit

Hey, welcome to my blog! I’m Casper du Toit, founder and owner of xUSD.

My mission is to make personal finance easy to understand, and help you make good financial decisions.

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