Tackle your debt headon and reap the re­wards

Don’t let your li­a­bil­i­ties take con­trol of your life. Draw up a plan to turn your fi­nances around – and then draw up an­other one to make sure you don’t fall into the same old traps.

Money Magazine Australia - - COVER STORY -

Debt is one of the old­est prob­lems peo­ple have faced through­out the his­tory of the world. The amount of that debt varies dra­mat­i­cally from per­son to per­son. Some peo­ple man­age it well while for oth­ers debt be­comes a ma­jor prob­lem.

If debt has be­come a prob­lem for you then there are two ma­jor tasks ahead of you. The first is to pay it off and the sec­ond is to change the be­hav­iour that caused it.

To achieve these ob­jec­tives you need to know ex­actly what your cur­rent state of af­fairs is. Start with your li­a­bil­i­ties. Write the amount you owe for each of your debts and to­tal them so you know the value of what you owe. Record the in­ter­est rate for each of your debts. You have now gath­ered the facts so it is time to take ac­tion.

STEP 1: Ne­go­ti­ate bet­ter deals Re­duce your fees and charges.

You have prob­a­bly heard the say­ing, “If you don’t ask, you don’t re­ceive!” You are now go­ing to find out how true this re­ally is when it comes to money. The goal is to re­duce the in­ter­est rate you are pay­ing on your credit fa­cil­i­ties.

Phone your lend­ing in­sti­tu­tions, or visit them in per­son, and tell them you are look­ing for a bet­ter deal and ask what they can of­fer. If you are not happy with their re­sponse, sim­ply say you are “think­ing of pay­ing off and clos­ing your loan or credit card ac­count(s)”. You would like to know how to go about do­ing that.

The staff mem­ber you speak to has been trained to re­spond in a way to en­cour­age you to keep your ac­count open, for ex­am­ple by ask­ing you how you’d cover any un­ex­pected ex­penses. Re­ply that you don’t think that will be an is­sue and you in­tend hav­ing money put aside in sav­ings for emer­gen­cies any­way.

They will most likely then start of­fer­ing you a bet­ter deal. Maybe they could lower or drop the an­nual fees? Would you keep the ac­count open if the in­ter­est rate was lower?

Play dumb and al­low them to of­fer as much as pos­si­ble. If you do not get a favourable re­sponse, sim­ply hang up the phone and dial again or visit an­other branch of­fice and try again. You will get a dif­fer­ent op­er­a­tor/staff mem­ber and per­haps a bet­ter of­fer.

If this does not work, you should try a more di­rect ap­proach. Ex­plain that you are ex­pe­ri­enc­ing fi­nan­cial dif­fi­culty and were won­der­ing if they can of­fer you some respite in the form of a bet­ter deal. Of course, you could try this strat­egy straight off but then again you might pre­fer to keep hold­ing this card close to your chest for when you need it more.

Re­fi­nance op­tions. If you don’t get a bet­ter deal you might ex­plore the op­tion of bor­row­ing money to con­sol­i­date your high-in­ter­est-rate debts into one lower in­ter­est rate loan. If this is pos­si­ble it will give you im­me­di­ate re­lief.

Be warned, though, that if you do man­age to con­sol­i­date some debts into a lower pay­ment loan, you must not then back away from your com­mit­ment to get out of debt.

STEP 2: One step back­wards, two steps for­ward

“Cash up” your non-es­sen­tial posses­sions. Iden­tify things you may have ly­ing around that you could sell, and think about how much money you could make to use to­wards re­duc­ing debt. Sell­ing “stuff” for less than you paid for it may seem like an un­ac­cept­able op­tion but you may be very sur­prised to find it could save you a lot of money.

For ex­am­ple, let’s say you have a $5000 credit card debt at 21% be­ing paid off at $31.10 a week over five years. You sell a $1000 watch for $500 and use that to­wards your debt. Pay­ing $500 off the debt saves $837 in in­ter­est and 43 weeks in re­pay­ments. Ef­fec­tively that is worth $1337 from the garage sale (the $500 cash and the $837 sav­ing in in­ter­est). You get back $1337 from sell­ing an item that cost you $1000. That’s a $337 bonus!

The cash you bring in from the sale of this stuff should be paid off your high­est-in­ter­est-rate debts where pos­si­ble, although if some items you sold have loans against them then you may have to re­pay those spe­cific loans.

STEP 3: “Snow­ball” the re­pay­ment of your debts

Debt snow­balling is a strat­egy you can use to dra­mat­i­cally speed up the process of pay­ing off your debts. You will chan­nel all of your sur­plus cash into re­pay­ing your debts.

There are ba­si­cally two trains of thought: 1. Pour any sur­plus cash and cash flow into pay­ing off your small­est debt first and then, when that debt is paid off, add (or snow­ball) that re­pay­ment onto the next small­est debt un­til it is also paid off. Con­tinue this process, al­ways adding the re­pay­ments from the paid-off debts to the next small­est debt un­til all debts are cleared. 2. Pour any sur­plus cash flow into pay­ing off your high­est in­ter­est rate debt first and when you’ve paid off that debt add (snow­ball) that re­pay­ment onto the next high­est in­ter­est rate debt un­til it is paid off. Con­tinue this process, al­ways adding the re­pay­ments from the paid-off loans to the next high­est in­ter­est rate loans un­til your debt re­pay­ment is com­plete.

The sec­ond op­tion is def­i­nitely the smarter one, but there are peo­ple who will try to tell you the first is bet­ter be­cause of the emo­tional and psy­cho­log­i­cal ben­e­fits that come from pay­ing that first smaller debt off faster. Do not lis­ten to them! If your wa­ter tank had two holes in it, and one was gush­ing out and the other was just trick­ling, which one would you plug if you had to choose one? Ob­vi­ously not the trickle! You could end up pay­ing thou­sands of ex­tra dol­lars in in­ter­est by fo­cus­ing any ad­di­tional pay­ments on the smaller debt rather than the high­est in­ter­est rate debt.

Re­gard­less of which strat­egy you choose, the small­est debt will most likely be paid off first any­way and you will get to feel good about that when it hap­pens. If it takes a few ex­tra months to get it paid off, the sav­ings in in­ter­est will be well worth that small sac­ri­fice!

STEP 4: Pro­tect your­self from your­self

If you have done ev­ery­thing sug­gested you should have be­gun pay­ing off your debts. To avoid back­slid­ing, there are a num­ber of safe­guards you should take. •

Use cash. There is no bet­ter way to stop spend­ing money you don’t have than to choose to only spend cash. At the start of each week you place a pre­de­ter­mined amount of cash in your purse or wal­let and that is all you can spend. When it is gone, it is gone. •

Use a debit card. It al­lows you to make credit-style pur­chases but uses your own sav­ings. •

If you have au­to­matic pe­ri­od­i­cal pay­ments be­ing charged to your credit cards – for ex­am­ple, in­sur­ance pre­mi­ums – change this so you pay by an au­to­mated elec­tronic funds trans­fer from your own ac­count. •

Can­cel your credit cards or ask your lender to put a freeze or limit on pur­chases. Also close any store ac­counts. •

Ask your in­sti­tu­tion to re­duce your credit limit. • If you have a line of credit or a re­draw fa­cil­ity at­tached to a loan or mort­gage and you have proven your­self to be a bad risk with money in the past, you need to place your­self out of harm’s way. Get rid of these fa­cil­i­ties. •

Find some­one to be a men­tor and/or coach to hold you ac­count­able when you weaken in your re­solve to stick to the plan. •

Be­gin to as­so­ciate with suc­cess­ful peo­ple and see what hap­pens. Join an in­vestors’ club or a ser­vice club where you will meet

new suc­cess­ful peo­ple.

David Wright is founder of the Spend­ing Plan­ners In­sti­tute.

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