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Serious debt can make you feel miserable and ruin your life.
It’s easy to believe there’s no way out of it, especially if your debt levels are growing each month.
However, there are several solutions to help you drag yourself back into the red.
It might not be quick or simple, but with discipline and a little bit of nous, it’s always possible to get your finances back on track.
Doug Constable is one of the best pre-insolvency advisors specializing in helping business with cash flow difficulties. He is a professional bankruptcy and insolvency expert and the author of “What to do When You Can’t Pay Your Debts”.
What is a debt spiral – and how do I avoid it?
If you’re forced to pay off so much off your debt that you need to keep borrowing to fund your lifestyle, this is called a “debt spiral”.
Your debt will continue growing until you find a way to break out of the spiral. According to one of the top companies the earlier you break out, the less money you’ll lose. We’ll explore some of the most effective ways to break out of a debt spiral below.
The most effective strategy is to not borrow beyond your means in the first place. You can avoid having to do this by transferring a percentage of your earnings (10% is a good target) into a savings account every time you’re paid. Then, you can hopefully fund any unexpected expenses with this money. Set up a standing order to automatically transfer the money into your savings on payday, so don’t even see it in your checking account. It’s much harder to miss this income if you never had it. Also, choose a savings account that pays the best available interest rate on your balance.
Automated saving is counter-productive if you already owe money to creditors, as the interest you’ll pay on debt is likely to be more than what you’ll earn on your savings.
Still, prevention is always better than cure when it comes to debt management.
The basic rules of debt repayment
If you follow no other advice in this guide, please pay at least pay attention to these golden rules.
Pay off your most expensive debt first
It might be tempting to pay off your smallest debt or your most aggressive creditors first, but this a poor strategy. Clear whatever debt you’re paying the highest interest of percentage on the first while covering the minimum interest payments of all other debts.
Payback debts as soon as possible
Hiding from your debts might feel temporarily comforting, but it’s only delaying and worsening the problem. The longer you wait to pay your debts, the more expensive they’ll become. Missed debt repayments will lower your credit score and you may face one-off fines too.
Live within your means whenever possible
You may face occasions where you have no choice but to borrow money. That’s when credit products are extremely useful. It’s recommended to only borrow money in these situations for goods and services you need, rather those what you want. Avoid the temptation for immediate gratification if you can’t afford to pay for it with your own money.
Increasing your income and reducing your outgoings
If you’re currently in debt, there’s no better time to find ways to earn extra money. These extra funds will have extra value to you at this time because it’s being used to save you expensive interest costs.
If you’re unable to work extra hours at your job, consider starting a side-hustle. Here are some examples of popular side-hustles to spark your imagination.
- Get a part-time job. Night shifts at a bar or restaurant. Babysitting. Tutoring. Whatever you can find.
- Drive for Uber or Lyft. Taxi and ride-sharing apps are becoming increasingly popular in the United States, and it’s easier than you’d expect to start working for them.
- Deliver food. Smartphone apps such as Doormats, Seamless and GrubHub are regularly looking for staff.
- Sell your services online. If you have a talent for writing, designing, coding or something more niche, you can sell these services to people on the other side of the globe. Websites like Fiverr, Upwork or even Craigslist have made this easier than ever.
- Trade items on eBay. Selling valuable possessions might be the last resort for you, but you should be able to offload them at a good price using eBay. There are lots of people who make good money by buying items and selling them at a profit on eBay, although there’s typically a learning curve, so this might not be the best solution if you’re in debt.
There are two steps to reducing your outgoings: erasing all unnecessary spending and reducing the cost of your necessary expenses.
You can determine what expenses are necessary by asking yourself whether you want or need it.
- Do you need to pay for food, shelter, and transport to work. Most definitely.
- Do you need your gym membership, magazine subscriptions or to go drinking with your buddies every weekend? Maybe not.
Reducing your necessary expenses could involve shopping at cheaper supermarkets, haggling over your utility bills and living more energy-efficiently. It could mean canceling Netflix or downgrading your health insurance. Maybe you have to get rid of cable or take the bus to work for a few months. That’s better than facing bankruptcy, where these assets may be taken from you anyway.
Should I consolidate debt?
A debt consolidation loan can be used to pay off all your creditors, so there’s only one monthly bill to worry about. It is also possible to borrow against your life insurance policy or retirement fund, as a means of consolidating debt.
This makes it easier to pay off your debt – and it can be nice not to be harassed my multiple creditors – but it rarely makes your debt any cheaper.
In fact, there are often additional fees associated with these types of debt consolidation. What’s more, you run the risk of being charged for early pension withdrawals (if the debt isn’t repaid in five years) or your family receiving zero life insurance payout.
There are a few cases when the convenience of having only one creditor outweighs the costs and risks of debt consolidation.
How to escape debt using a household budget
The first step to creating an effective household budget is to be aware of how much income you’re making every month (or be able to make a rough estimate).
Next, divide this figure into spending categories.
Firstly, there will be compulsory categories: (e.g rent, bills, transport, children, groceries, healthcare & cosmetics). With the remaining money, you can create a category for leisure and one for repaying debt.
Once the budget has been created, you’ll be able to calculate the number of months it takes to be debt-free. This serves as a great motivator for you to stick to your budget without borrowing any more money.
If there is no remaining money after your compulsory categories are filled, you’ll have to either increase your income or reduce your outgoings using the methods listed above. Failing that, you may have to seek a helping hand using the services listed below.
Get a helping hand
These solutions are ordered by how little damage they’ll do to your finances and credit rating. All fees and potential credit score damage are listed within the bullets.
Try a balance-transfer credit card
If you have credit card debt, you can save a lot of money by switching it to a balance transfer credit card. These cards will charge 0% interest on all transferred balances for a specific introductory period. You’ll pay a one-off fee, structured as a percentage of the transferred balance. Still, the balance-transfer periods on some cards can last over 24 months, so you can save a lot compared to the interest you’d have otherwise paid.
Credit card hardship plan
If you’ve fallen on hard times (due to an illness or job loss), it’s worth asking if your credit card company has a hardship plan. Using these plans, they’ll lower your interest rate until you’re back on your feet.
Remortgage for lower payments
It may be possible for you to extend your mortgage term to lower your monthly repayments. You’ll pay more interest overall, but you could use the savings to pay off more expensive debt. Additionally, while fha loans tend to have competitive interest rates, hud recommends homebuyers still compare fha loans with other types of mortgages in case an fha loan isn’t the most affordable option. If your debt will only take a few months to repay, consider investigating a mortgage repayment holiday. Not all mortgage providers allow this and interest will still accrue on your debt, but it could still be a handy option. You can also get a conventional loan for lower payments, this is explained further at emetropolitan.com, you can read at their website for an article about it.
Home equity loan
It is possible to borrow against the home equity loan in your property in order to pay off other debts. This may work out cheaper than your current debt situation. The risk is that your home may be repossessed if you fall behind on these repayments. An alternative to this is a Home Equity Line of Credit, which you can borrow from continuously until the debt is repaid.
Credit card debt settlement
If you’re in serious credit card debt, which you’ll be unlikely to pay in full, it is possible to negotiate a debt settlement. This settlement involves paying a percentage of the debt as a lump sum (or potentially in 2-3 monthly payments) in order for the rest to be written off. You can instruct a debt management company to do this on your behalf, but it’s generally considered more convenient to do it on your own. A debt settlement will leave a black mark on your credit report for seven years and make it much harder to access credit. You’ll also pay income tax on the written-off debt if it’s worth $600 or more.
Work with a consumer credit counselor
By law, you have to seek consumer credit counseling before filing for bankruptcy, so you might as well use these companies as a last resort alternative to it. A consumer credit counselor will negotiate with your creditors in order to write off some of your debt. From there, you’ll make one affordable monthly payment to them until the debt is cleared. However, there is no guarantee that your creditors will strike a deal. This debt management plan will be stored on your credit file for seven years, making it difficult to be approved for other credit products.
Under Chapter 7 bankruptcy, your debts are completely written off, but only when all of your liquid assets are sold and distributed among your creditors. Some of your assets may be exempt from this, depending on your state’s bankruptcy laws. You’ll only be eligible for Chapter 7 bankruptcy if your household income is lower than the median for a similar-sized family in your state. Under Chapter 13 bankruptcy, you’ll repay all or part of your debts to the courts over a 3-5 year repayment plan. The courts will then pay your creditors. You have to suggest this plan to the courts at your bankruptcy hearing, then start paying this straight away. At your second hearing a few weeks later, you’ll hear whether your plan was accepted. Although your creditors can reject them, the judge will have the final say.
Know your rights and take care of your mental health
Serious debt can take its toll on your mental health. It’s common for debt sufferers to experience feelings of worthlessness and anxiety, especially if they’re dealing with debt collectors.
As tempting as it may be to ignore calls and letters from debt collectors, this won’t make them go away. Ultimately, the debt collector could end up suing you for non-payment.
In the long run, it’s better to face them. Just make you know your rights when you do.
Federal law prohibits debt collectors from engaging in abusive, unfair or deceptive practices. They’re also forbidden from trying to contact you at work, through a third party or between the hours of 21.00 and 08.00.
Alternatively, if you find yourself struggling with feelings of depression and anxiety, don’t hesitate to seek help. This could be from a friend or family member, (who may even be willing to lend you the money to help you back onto your feet). Samaritans USA and Lifeline Crisis Chat also both run a brilliant helpline for those struggling with depression.
Whatever your debt situation is, it’s important to make a plan to get out of it now. The sooner the act, the sooner you’ll be back in the red.