3 Tips to Help Reduce Your Debt

12/21/07 posted by Jeremy of GenX Finance

Debt is a fact of life for many people, and while debt isn’t necessarily a bad thing, bad credit card and debt habits are. When you are burdened with substantial debt, you probably wonder how you can effectively reduce that debt. Here are a few things that can help you get things under control.

Stop Borrowing

You need to stop borrowing. Does that sound obvious? It is, but unfortunately that can be easier said than done. The fact of the matter is that you will never climb out of debt if you continue to borrow money. Resist the temptation to use your credit cards and remove them from your wallet or purse. Put them in a lock box at the bank, or freeze them in a block of ice. Do whatever it takes to make them harder to get to.

Consolidate Your Debt

Many credit cards have very high interest rates, and these high rates make your monthly payment larger. Not only does it increase the monthly payment, but you will spend hundreds or thousands of dollars in interest while repaying the debt. If you can, you want to negotiate a lower interest rate or consolidate the higher interest debts into a more favorable rate. Editor’s Note: Using Prosper to get a loan is an excellent way to consolidate debt – use the Loan Calculator to view a summary of your loan’s overall cost.

Break the Minimum Payment Habit

Once you have stopped borrowing more money and have obtained reasonable interest rates on your debt, you need to break the minimum payment habit. Did you know that on a typical credit card, if you only make the minimum payment, it can take over ten years to pay it off? In addition, over that time period you will likely pay more in interest than the original balance was.

The minimum payment may be affordable, but you are on the long road to financial freedom if that is all you pay each month. Minimum payments are typically just a few percentage points of the outstanding balance, which usually just barely covers the interest payment.

Get into the habit of paying more than the minimum. It doesn’t matter if it is an extra $10 or $100 a month, but by paying more than the minimum, you will be applying that directly to the principal and can shave months or years off the debt. Not only do you pay the debt off quicker, but you’ll save a great deal of money as well.

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Jeremy is the author of the personal finance blog Generation X Finance, which aims to help a unique generation achieve financial independence. Jeremy also writes for the Financial Planning topic over at About.com. He currently works as a retirement plan specialist with a focus on employer-sponsored plans.

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6 Responses

Andrew Martinez-Fonts | December 21st, 2007 at 9:42 am

So true about not just making the minimum payment on your credit cards. My favorite quote from a Prosper listing this week is from listing 25165 where, when asked: “What is the minimum payment on the $13,750 loan you will be paying off?”, the borrower answers: “The minimum is $354, but at the minimum it would take two lifetimes to pay off.” Just say no to the minimum payment.

Mark | December 21st, 2007 at 3:00 pm

In a thumbnail sketch, the ways out of debt are decrease expenses, and/or increase income.

By the time one is talking about getting out of debt, usually the interest is already a significant expense, so it makes sense to restructure debt to reduce the interest rate, if one is able to do so. In fact, the only listing I had bid on in the past few months is precisely that: refinancing debt at a lower interest rate to reduce the cost of debt so the same dollar amounts in payment can pay off more of the principal.

Unfortunately, not all second loans are created equal. A survey did for the FDIC showed that, of about 1,000 borrowers of high LTV loans, 70% were back in credit card debt within 12 months. Statements made on The Motley Fool web site in the “Credit Card / Consumer Credit” forum confirmed approximately the same ratio: about 70% of those who got loans to take care of existing debts ended up being further in debt within a year or so, and windfalls, if any, were just temporary relief.

What is common about the 30%? They have a debt elimination plan and what new loans they take out or credit card offers they make use of are stepping stones on that plan, that is, restructuring debt is for reducing interest rates so more dollars go to principal instead of interest.

Unfortunately, a lot of people can “talk the talk” without “walking the walk”, so it is hard to tell over the Internet whether someone really has a debt elimination plan or is just talking like one has one.

But to just say “Get a Prosper loan” can be more destructive than good without a plan in action.

RateLadder | December 21st, 2007 at 5:06 pm

@Mark
Excellent Comment! I would also point out that there many, many debt consolidation loans on Prosper (not just the one Andrew pointed out). In fact at one point, I (with inspiration from leporello) did some research and the most regular listing titles all were concerning debt consolidation loans.
http://www.rateladder.com/2007/09/10/top-prosper-listing-titles-of-all-time/

Tom | December 23rd, 2007 at 7:35 am

TO borrowers getting a loan to pay off those Credit Cards………When you get your loan from prosper make sure you pay off those credit cards! THEN cut them up so you will not use them again and run them back up. BUT do not cancel them! This will help you with you FICO score. Unused credit is a good thing. And don’t forget to make your prosper payment on time!

Tom | December 26th, 2007 at 2:17 pm

I feel that a Prosper loan can be a very good way for someone to help themself get out of high interest rate credit cards and payday loans.