After getting ahead on some things and getting your financial life in order, you are now tasked with figuring out the best way to get rid of your debt. You sit at the kitchen table or your desk with decision paralysis because you’re not sure what choice to make or what to even consider first.
You thought that once you were able to meet your bills you’d be able to sleep better, but your debt is still keeping you up at night since you’re not sure what to do with it.
This was me a year or so ago.
Part of the problem with our debt is that we get so used to it being around. That’s one reason why it’s hard to decide the best way to tackle it first. We’ve had these payments for so long. Now that we are getting ahead and have a little extra money each month, we can handle the payments. Why should we try and get rid of them?
The short answer to that is “YES! GET RID OF THEM!” 😉 Freedom doesn’t come cheap but you can’t obtain it if you have debt.
There are also a lot of questions that we start to ask ourselves. Do I use the snowball method? Should I concentrate on the highest interest rate first? Should I care how much a particular credit card payment costs me on a monthly basis? Should I consolidate all of my debt?
Arguably, the first question you’ll want to ask yourself is “How aggressively should I pay down my debt?”
Because this one question will determine the answer to all of those other questions.
Figuring out how aggressive you are going to be will help you determine how much you are going to be putting toward your debt. This, in turn, can be a great help in deciding on a method.
Here are five things to consider when trying to determine how aggressive you should be with your debt.
Are There Any Pressing Matters?
Is there anything more important that you need to be using your money for? Is there something that really needs to be fixed that you’ve been putting off? I put off fixing our kitchen faucet for the longest time. More than a year!
Then our garbage disposal in our kitchen sink started leaking and needed to be replaced. You know what I did? Put a bucket under it and didn’t use that side of the sink.
Yeah…still working on that whole Frugal vs. Cheap thing.
Anyway, I finally came to my senses and decided to take some money out of our debt payback budget and actually fix it the right way.
See if there is anything pressing that needs to be addressed with the money that you are planning to put toward your debt. It can be anything from a home repair like I had, to something like going on a date with your spouse because you haven’t had the time or money to go out.
How Much Interest Am I Being Charged?
The Debt Snowball Method is one of the best ways to aggressively pay down your debt. Why? Because each time you pay off a piece of your debt, the psychological “win” factor propels you to keep going. However, the Debt Snowball Method doesn’t account for interest rates whatsoever.
Even if you are more than likely going to be using the Debt Snowball Method, you’ll want to at least take a peak at your interest rates. Absolutely still snowball the payments. But interest rates should play a factor in your process.
What I recommend doing is using an online interest rate calculator such as this one at BankRate.com to play with the numbers. Figure out how how long it will take to pay off one of your high interest loans by playing around with the order you might pay it off in. You can calculate the months using the Debt Snowball method and a spreadsheet like this one that can figure it all out for you.
This will allow you to see how much interest you’ll be saving if you pay off a high interest rate loan first in your snowball versus other positions.
By considering the interest rate of my debt, I was able to save almost $2,000 in interest by focusing on my high interest Disney Vacation Club loan.
How Quickly Will This Affect My Monthly Expenses?
This is something I regularly consider when looking at my budget. This is a great tool to use, especially if your debt is almost all no-interest like mine. Here is a three piece debt scenario for you:
- Interest Rate: 12.5%
- Balance: $1,500
- Minimum: $35
- Interest Rate: 9%
- Balance: $2,000
- Fixed Monthly payment of $250
- Interest Rate: 0% (introductory for 18 months)
- Balance: $1,700
- Monthly payment of $100 (to pay it off before being charged interest)
Now, say you have $500 a month you are putting toward your debt. What I like to look at is even though the interest rate is higher on the first Credit Card, the monthly payment is much higher on the personal loan.
Depending on what you figure out with interest rates, if you aren’t paying significantly more in interest by paying off the 12.5% credit card second, then paying off the personal loan first will give you an extra $250 a month. You can use this amount in the future if you do have an emergency or something unexpected.
With my personal scenario, my debt with the highest interest (by far) also had second highest monthly. That one was the one I concentrated on and paid off in 5 months.
Are There Any Prepayment Penalties?
This one is rather simple to check on, and you aren’t likely to come across it unless it’s a large debt such as a mortgage or car loan. In some cases, however, there may be a penalty for paying off your debt early.
Before prepaying, it’s best to check your agreement with your loan provider to see if there is any type of prepayment penalty. Luckily, my Disney Vacation Club loan did not have a prepayment penalty.
Having a prepayment penalty doesn’t necessarily mean you shouldn’t consider paying off a debt, though. Depending on how much the prepayment penalty is, it may actually be cheaper to pay off the debt early. For example, if over the life of a loan the interest charge will total $6,000, but the prepayment penalty is $1,500, even if you’ve paid half the interest already it would still be cheaper to pay it off.
Are There Any Credit Cards Nearing Their Limit?
One last thing to consider before diving headlong into paying off all your debt is the limits on your credit cards. One of the factors used to determine your credit score is your balance to limit ratio. That simply means that if you have several credit cards that are near the limit, it can negatively affect your credit score.
If you are concerned with your credit score, or are looking to apply for any type of loan in the near future (perhaps, to help consolidate debt), it may be best to pay down some credit cards that are nearing the credit limit. Doing this first will help you secure a better interest rate. It will also lower your minimum monthly payments for when you do start snowballing away at your debt.
Considering the above will help you determine how aggressive you want to be when paying off your debt. There may be some other, simpler considerations as well. It could be that you have already paid off a bunch of debt and need to take a little bit of that money and reward yourself. Perhaps your grocery budget could use an overhaul. There are a number of smaller considerations, but the above thoughts may be the biggest.
What are some things you look at before trying to tackle your debt? What helps you decide how aggressive to be?