When the holiday flurry is over and the bills start arriving, you may realize that once again, you have spent beyond your means. If you are tired of spending most of your hard-earned money paying interest on credit cards, this is the perfect time to take stock of your finances and implement debt reduction strategies.
Make a budget
Always start by making a budget. A budget tracks your income against your monthly spending, so you can identify the necessities and trim back the extras.
Start by listing your income. Next, list all your fixed expenses: your mortgage or rent, car payments, insurance, gas, utility bills, and groceries. Depending on your circumstances, you may also have other fixed expenses, such as expenses relating to your children’s education.
Even here, there may be some things you can trim. You may be able to reduce your insurance costs by shopping around or by consolidating all your insurance with a single provider. Getting rid of a second car also gets rid of those car expenses. Utility bills can be trimmed by lowering the thermostat, turning off unnecessary lights, and changing other energy-wasting habits. An energy audit of your home may help you to identify other places where you can reduce your energy costs.
After subtracting fixed expenses from your income, what is left is your disposable income. What happens to it next depends on how deeply in debt you are.
Identify the fluff
How much do you spend everyday on lunches or fancy coffees? Try brown-bagging your lunch a few days each week. If you must have coffee, switch to regular coffee. Limit the goodies to a once a week treat. Even the little things can add up fast.
Credit cards
Credit card debt is one of the most expensive types of debt. If you pay only the minimum required payment, you will be paying off that debt and its interest for more than 30 years. Even with a modest 20% APR and 3% payable per month, if you pay off only the minimum monthly payment, that $1,000 purchase will end up costing you more than $2,200!
If you want to get your debt back under control, it is important to pay credit card debt down as fast as possible. This will mean using up most of your disposable income, at least at first.
One way to do this faster is to get a new credit card which will allow you to transfer your existing balance at a lower interest rate. Do not use this balance credit card for anything except paying off the balance. The promotional rate applies only to the transferred balance. If you use that credit card for new purchases, they will be charged at a higher interest rate. Credit card companies always apply your payments first to the part of the balance which has the lowest interest rates.
Many debt reduction strategies recommend getting rid of the credit cards altogether. Do this only if you cannot control your spending otherwise. Otherwise, keep at least 2 credit cards: the one you use for spending and the one to which you have transferred your balance. It is difficult to function in the modern world without a credit card. Besides, when you have your spending under control and have a history of spending only what you can repay each month, your credit rating will rise correspondingly.
Emergency fund
As soon as you can, start setting aside some of your income for emergency expenses. You should aim to have at least 2-3 months income saved up in case of emergencies. The ideal amount to save is 10% of your income each month, but you probably won’t get there until you pay down part of your credit card balance.
The important part is that you set aside some money each month for emergencies, such as emergency appliance repair or car breakdown. Look for a good health care insurance provider to cover the major costs of keeping you healthy.
Savings
Once you are able to pay off all your fixed monthly expenses and are also paying down your credit card debt by at least double the minimum monthly payment, it is time to start saving. Your goal is to save at least 10% of your income each month. Divide your savings into 2 parts: long-term savings and short-term goals.
Short-term goals are anything you want to have within the next year. They could include a vacation, a big screen television, or even the gift fund for next Christmas. Savings for your short-term goals can be kept in a dedicated high-interest savings account.
Long-term savings is for your retirement fund. These funds can be locked away for a year or more, if it gets you better interest. Shop around, but remember that the lower the interest rate, the safer the investment. Low-interest savings accounts and Treasury bills are insured in case of bank failure. As you manage to save more and more for your retirement, many of your retirement dreams will move from the impossible to the possible.
Implementing a debt reduction strategy now can make all the difference. Why not start today?