Dealing with seemingly insurmountable debt can feel hopeless, and despite millions of Americans sharing this struggle, it can also be an embarrassing and isolating journey. While some may find comfort in numbers, the stark fact of the matter is, the average American household began 2023 with nearly $10,000 in credit card debt. If you find yourself among those struggling to pay off your debt, wondering how or where to begin the process, check out these 5 effective methods that can get you on the path to financial freedom in no time!
1. Create a Realistic Budget and Stick to It
Creating a budget is the first step toward debt repayment and ultimately, financial freedom. Not only will a budget force you to accurately assess your current financial situation and determine how much you can afford to spend each month, but it will also help you prioritize your expenses and set realistic savings goals.
To create a realistic budget, you will need to first spend some time reflecting on your lifestyle, future goals, and personality patterns. Understanding the choices, or uncontrollable circumstances, that contributed to debt accumulation will not only shed light on spending patterns, it will also help ensure you don’t repeat avoidable financial mistakes in the future.
Assess Your Current Financial Situation
Start by identifying all of your sources of income and your monthly expenses which will include everything from bills, rent, or mortgage payments to credit card interest, loans, and any other expenses you may have. Make sure to also account for irregular expenses like car repairs or medical bills.
Assessing your current financial situation can be a daunting task, but it is a necessary, and eye-opening, one. Understanding where your money is going and where you can make changes is essential in order to improve your financial health. Take the time to review your bank statements and credit card bills to get a clear picture of your spending habits.
Prioritize Your Expenses
Once you have a clear idea of your monthly expenses, sort them by priority identifying essential expenses (like rent or utilities) and non-essential expenses (like entertainment or eating out).
Another way to further categorize these expenses sorting them as either “fixed expense” or “variable expense”. A fixed expense is a bill that is consistent each month while a variable, is just that, one that can vary from month to month. It should be noted, that even though some bills are variable (ie. groceries) does not mean they aren’t deemed essential. Likewise for fixed bills. Subscriptions (ie. magazines, streaming services) may be fixed, however, they are not necessarily essential and could be canceled if necessary.
When prioritizing your expenses, you will want to focus primarily on payments that are necessary for daily life (ie. mortgage), however, it may be unrealistic to completely cut out all sources of entertainment. While it may make sense at the moment, the chances of someone sticking to the bare essentials for substantial periods of time are considerably low. It makes more sense to find areas that can be trimmed down, while also allowing yourself flexibility and enjoyment.
Set Realistic Savings Goals
With a budget in place, you can now set realistic savings goals that should be prioritized alongside your debt repayment plan. One of the major issues with many people’s budgets is that they focus all their attention on repayment and completely forget about building up a savings account. Again, throwing every available dollar at outstanding debt may look good on paper, however, what happens when an unexpected expense arises? Back to debt.
Slowing setting money aside, even seems like nothing, not only will allow you to be prepared for inevitable times of need, it also establishes a pattern, one that will likely continue as the dollar and cents start to add up.
2. Utilize the Debt Snowball or Debt Avalanche Method
Having a debt repayment method that works for your lifestyle and future goals will be an imperative part of finding your way to financial freedom. There are two extremely popular methods used by millions of people worldwide that have helped tackle substantial amounts of personal debt.
The Debt Snowball Method
The debt snowball method involves focusing on paying off your smallest debts first while continuing to make minimum payments on larger debts. By following this process, you can build momentum and motivation as you see progress quickly. Once you’ve paid off your smallest debt, you can then roll over the money you were putting towards that debt to pay off the next smallest, and so on.
The Debt Avalanche Method
On the other hand, the debt avalanche method involves focusing on paying off the debt with the highest interest rate first, while also making minimum payments on other debts. The avalanche approach is generally preferred as there can be substantial interest savings, however, for those who struggle with motivation, this method can feel cumbersome and requires dedication.
Deciding which method to use ultimately comes down to your personal preferences. If you’re someone who needs quick wins to stay motivated, then the debt snowball method may be a better fit for you. However, if you’re someone who wants to save money in interest payments over time, then the debt avalanche method is the way to go.
Despite the route you ultimately choose to take, remind yourself that you didn’t get into debt overnight, so you aren’t going to get out of it overnight. Yes, it can feel like a slow process, however, taking the time to remind yourself of your goals and reasons frequently can help keep your eye on the prize.
3. Consider Debt Consolidation or Refinancing
If you are struggling with substantial amounts of debt where the interest payments alone seem to be becoming unmanageable, you may need to consider slightly more drastic steps than one of the above-mentioned methods.
Debt consolidation and refinancing are two options to help make paying off debt more feasible, however, it’s important to understand the differences between the two and which one may be best suited for your specific financial situation. You will also want to thoroughly research the impact your course of action may have on your credit or ability to borrow in the future.
The Benefits of Debt Consolidation
Debt consolidation involves combining multiple debts into one lower-interest loan. Not only is it advantageous to only deal with one company, but debt consolidation loans can also provide significant savings in terms of interest.
One of the most significant benefits of debt consolidation is that it simplifies your debt payments. Rather than keeping track of multiple payments with varying interest rates, you only need to worry about one payment, making budgeting and financial planning much easier and less stressful.
There is a chance that by consolidating your debt into one loan, you will actually be improving your credit score. When you have multiple debts, it can be challenging to keep track of all the payments and due dates. Late payments can negatively impact your credit score.
The Benefits of Refinancing
Refinancing is another option to consider and it involves taking out a new loan or pulling equality with a lower interest rate to pay off your existing debt. Many homeowners will use this option to pay down debts as the interest rates can be wildly lower.
The process of refinancing is not always a quick and easy one, many times taking weeks if not months to complete. Having a Home Equity Line of Credit or a new and increased mortgage registered requires considerably more paperwork, however, depending on the amounts, could mean thousands, or even tens of thousands, saved in interest.
Evaluating Your Options
When considering debt consolidation or refinancing, it’s important to weigh the pros and cons. You may be able to save money in the long run, but it’s essential to understand the terms and fees associated with these options. You should also consider your overall financial situation, including your income, expenses, and credit score, to determine which option is best for you.
It’s also worth noting that debt consolidation and refinancing are not quick fixes. They require discipline and a commitment to paying off your debt over time. However, with the right approach and a bit of patience, these options can help you take control of your finances and achieve your financial goals.
4. Increase Your Income and Allocate Extra Funds to Debt
In some cases, it may be necessary to increase your income to pay off your debt more quickly. Fortunately, there are several ways to do this.
Pursue Side Hustles or Freelance Work
One option is to pursue side hustles or freelance work to earn extra income. This could include anything from pet-sitting to graphic design. Consider taking on gigs in your spare time or freelancing in your field of expertise. Not only will this help you earn extra money, but it could also be a great opportunity to develop new skills and expand your professional network.
Negotiate a Raise or Seek a Higher-Paying Job
If you’re looking for a more substantial increase in income, another option is to negotiate a raise with your current employer or seek out a higher-paying job. This can be intimidating, but it’s important to remember that you deserve to be fairly compensated for your work. Do your research, gather evidence of your contributions to the company, and be prepared to make a case for why you deserve a raise or a higher salary. If you decide to look for a new job, make sure to update your resume and LinkedIn profile, and practice your interview skills.
Sell Unwanted Items or Downsize
Another way to free up extra funds to put towards your debt repayment is to sell any unwanted items or downsize your living situation. Take a look around your home and identify any items that you haven’t used in a while or no longer need. You could sell them online or at a garage sale. If you’re willing to make a bigger change, you could consider downsizing your living situation. This could mean moving to a smaller apartment or house or even getting a roommate. While this may not be the most appealing option, it could make a big difference in your ability to pay off your debt.
Remember, increasing your income is just one part of the equation. It’s also important to make a plan for how you will allocate those extra funds toward your debt. Consider creating a budget that prioritizes debt repayment, and make sure to stick to it. With dedication and hard work, you can increase your income and pay off your debt more quickly.
Paying off debt quickly may seem daunting, but it’s possible with the right strategy and motivation. Creating a budget, utilizing debt repayment methods, and increasing your income are all effective ways to tackle your debt and regain control of your financial situation. With these five methods in mind, you can take the necessary steps toward becoming debt-free.