Are you struggling to get out of debt? If you find it hard to create some wiggle room in your budget for debt, then this guide is for you. We’ll show you how to establish a well-crafted and balanced budget, allowing you to pay off your debts within a realistic timeframe.
1. Start with a simple budget
Before you can get out of debt, you need to take stock of your financial situation by creating a budget. Creating and following a budget is absolutely essential to becoming debt free. Once you know exactly how much you spend each month, you can set priorities and goals.
Your budget should include all of your income, expenses and debt repayments. A good place to start is the 50/30/20 budget, which is an easy way to manage your costs by breaking down your earnings into three different sections based on importance.
It’s as simple as it sounds: spend 50% of your money on necessities and 30% on things you want. Then allocate the remaining 20% to your debt payments.
If you have room in your budget to spend less on your wants, put that extra money toward paying down your debt. By doing so, you’ll pay off debt at a faster rate and save money on interest.
If a 50/30/20 budget doesn’t work for you, there are lots of other budgeting systems available, such as envelope budgeting and zero-based budgeting.
Look at your bank and credit card statements and make a budget that lists everything you spend each month. Don’t forget to spread the cost of your annual expenses throughout the year, including vacations, birthday gifts and Christmas.
Should I pay off debt first or save?
Before you start saving, pay down unsecured debts with high-interest rates, like credit card debt.
Do you need a budget app?
Budgeting apps can help you stay motivated by automating the budgeting process, categorizing transactions from your bank account and notifying you about your target goals.
Alternatively, you can use paper or create a spreadsheet for each expense category.
2. Increase your income and reduce expenses
Whenever you have extra money, such as a wage rise or work commission, use it to pay off your debts faster. You can also make extra money by working extra shifts, adding a part-time job or selling something online.
Another way to get out of debt is to reduce your spending as much as possible, cutting back on things like dining out, hobbies, and shopping.
Examine each expense and ask yourself whether you really need it. Can you reduce your utility or cell phone bill by switching providers or reducing your consumption? Do you need all of those subscription services right now?
Pre-authorized debits (PADs) help us keep up to date with essential bills, but they allow companies to automatically transfer money from your account at any time. Check the amounts coming out of your bank to ensure they are correct.
3. Decide what debt you should pay off first
When it comes to getting out of debt, you need to figure out which debts should be paid off first. Focus on repaying unsecured debts, such as payday loans, student loans, personal loans, car loans and credit card balances.
If you cannot make ends meet, some debt relief programs can help you reduce your debt faster, such as a consumer proposal or credit counselling.
If you have a good credit score, a debt consolidation loan could let you combine your debts into one loan with a better interest rate, thus saving you money. A poor credit score impacts the interest rate you are offered, so look to improve your credit by examining your credit report and resolving any negative issues.
A. The debt avalanche method
The debt avalanche method involves paying off debt with the highest interest rate first. This can help you pay off your debt faster and save money. So, if you have a credit card that costs a lot of money on interest, you focus on paying more to your credit card while still making the minimum payments on your other debts.
You need to work out how much debt you have and the interest rate so you can pay off your high-interest debts first. For example, paying off a £5,000 credit card saddled with a 20% interest rate will save you £1,000 per year.
B. The debt snowball method
With the debt snowball method, you pay down smaller debts first to build momentum and continue to make minimum payments toward the rest. Paying down smaller debts can motivate you early on, but you may pay more in interest over time because you aren’t dealing with large debts with high interest.
4. Make multiple debt payments
Making the minimum payments on debts like credit cards won’t reduce your total debt, so you need to pay more than the minimum amount due to start lowering the balance. Even just paying an extra $50 a month can make a difference.
If you are willing to make additional payments on your credit cards and lines of credit, it can result in significant savings on interest rates as you are paying the balance down faster. Additionally, the extra payments can also lower your credit utilization ratio and improve your credit score.
5. Transfer your debt to an interest-free credit card
To give you some breathing space on your credit card, Transfer your debt to a credit card with no interest. This means you can clear your debt without accruing any interest for a set period. Use this opportunity to pay off your debt as part of your budget.
6. Set up a rainy day fund
Having emergency savings ensures your debt repayment efforts are not derailed if you get sick or have an unexpected bill. While this rainy day fund should be at least $500, aim to add as much as you can afford.
Stay within your budget to pay off debt
Eliminating debt is a massive achievement and the first step to financial independence. You can get out of debt quickly by staying focused on your debt repayment plan and being disciplined with your budget. Decide on a budgeting method that works for you, track your progress and be patient. It will likely involve sacrifices, but it will be worth the effort in the long run.