Tackling Debt 101

[berlinsmommy]

1. Get it all together – the good, the bad, and the ugly. Make a list of ALL your debts that includes the total amount owed, the interest rate, the minimum payment, the due date, and any other terms (such as 0% interest until a certain date, declining interest for on time payments, etc.). Include only the debts you are tackling. For example if you have thousands in credit card debts that are at high interest rates, putting a mortgage at 6% or a car at 7% on the list doesn’t make sense. However, something like a high rate car loan or second mortgage should be on the list.
2. Start negotiating. Look over your list and start making phone calls/visits. For example, if you have a medical bill for $300, call and ask if they will settle for $150 if you pay today (assuming you can). Any accounts in collections, try your best to settle with. On all accounts you can ask for them to reduce interest rates, waive late fees, waive annual fees, refund over the limit fees, extend the terms on low rate financing (such as 0% deals), etc. depending on the account. On some of the lower interest rate accounts, you can also ask for permission to skip a payment without penalty. Negotiate as best you can on each and every account, you may not get something from every one, but you should contact and attempt to negotiate with each and every account. Also use this opportunity to clear up any incorrect charges or information on your bills. Having a little bit of money available at the time to entice your creditors to negotiate with you can be a large help too, such as the medical bill example.
3. Revise your list with any results of the negotiations. Keep careful track of who you spoke to and when. Occasionally mistakes are made and you may negotiate something, such as a lower interest rate, and somehow it never gets applied.
4. Prioritize the list. There are two schools of thought here. The first is to organize them by interest rates – highest to lowest and to start throwing money at the highest. The second is to tackle small balances first so the minimum payments are gone and you have more money to send to the larger balances. I see the merit in both ways, so I recommend examining your own situation and deciding what is best for you. You may even combine the two methods, such as paying off any small balances that have somewhat high rates, even if they are not your highest rates, but not paying off small balances with low interest rates.
5. Make a plan, but be realistic. Figure out where else in the family budget you can cut spending and/or get extra money to free up money to tackle debt. This is where I see many families fail. In the planning stages they are all gung-ho that the rest of the budget will look like this: mortgage/rent, car payment, insurance, utilities, groceries. Then they will chuck the rest at debt. One month later when the dog needs to go to the vet and the car needs brakes they don’t make their goal and just give up. Make a REALISTIC plan for how much your family can allocate towards paying down debt. This plan can take a variety of forms such as cutting spending, someone getting another job or working overtime, selling extra items, etc.
6. Track your progress and update the plan often. The plan should not be something set in stone, it is fluid and will change many times in the process. For example, if you get a raise, it’s possible you can pay down debt faster. You may have rising or unexpected expenses that delay your progress, but don’t give up.
7. Renegotiate often. Just because one of your creditors refused to lower your interest rate back when you set on your plan does not mean they will not lower it later on. I would recommend making contact with every single one of your creditors at least monthly to try to renegotiate. The worst they can do is say no, and they may say yes! Also, once you get a few things paid off or down, or get a few more on time payments under your belt, you may have increased your chances to get more favorable terms. Also, by increasing your creditworthiness, you may be able to shift your debt around. For example, by paying off a high interest, low balance credit card, its possible that the issuer of that card may then offer you more favorable terms, such as 0% interest for 6 months, to get your business back. Then you can shift some of the other high rate debt to that card with 0% interest. So renegotiate with everyone, even credit cards that you have paid off. Also, depending on your situation, you may even apply for new loans or credit cards that have better terms than your current ones, but be VERY careful with this, you don’t want to dig yourself even further into debt just because you got a new credit card. Stick with the plan!!!

A few notes:
I know many experts recommend first building a small emergency fund. For example, Dave Ramsey recommends getting together $1,000 in emergency money, and then tackling your debt. I strongly disagree and here is why: That savings is costing you money!! Let’s say your highest interest rate on debt is 25% and that $1,000 in savings is earning 5%. In effect, that savings is costing you 20% interest, which is $200/year!! What I’m saying is, by putting that $1,000 towards your debt, you will not earn the $50 a year in interest (a little over $4/month) you would have if you kept that money in savings, but you will avoid paying $250 a year (close to $21/month) in interest.

Second, unless they have an annual fee, I do not recommend closing cards after you pay them off. In most cases this hurts your credit score, which will affect your ability to secure better terms on your other debt. It also makes you unable to negotiate with them for lower rates and better terms after they are paid off, which could help you dramatically. Also, if you take my advice and forgo having any emergency savings, at least you will have available credit in case of an emergency.

Edit to add: I want this to be an open discussion, so feel free to discuss and ask questions. Also, if you want to ask a question but don't want to post it here, feel free to PM me and I can either answer via PM or post your question (without saying where the question came from) and answer it, so others can learn from it.

[MaryMary]

I'm a bit confused by #1. You said "Make a list of ALL your debts that includes the total amount owed, the interest rate, the minimum payment, the due date, and any other terms" Then "Include only the debts you are tackling"? IMO, ALL debts should be written down, because as you are rightfully suggesting later we have to prioritize that list. This should be step #2, not # 4. I see more sense in "killing" the debt which cost you the most. Number of payments per mo. for me is a matter of organization.
I'd also suggest making a list of your assets, your incomes and possibly looking for ways for trimmimg your budget.

[BzyBee]

Thanks for the info berlinsmommy.
While tackling debt is an admirable goal, it is likely to be unsuccessful unless one first has a budget that allows them to live at or below their means. If you want to pay off debt and/or save, you will have to live below your means. (OK, you have to spend below your means...with deal hunting, couponing and negotiating purchases you do not have to compromise your entire lifestyle). I suggest doing a budget before you make the plan to pay off the debt. Maybe even live with the new budget for a few months to work out the kinks and get it really working. Any money 'saved' during the process can go to the emergency fund.

I do suggest setting aside an emergency fund. That way, if an emergency comes along while you are trying to pay off debt you do not need to incur more debt to deal with the emergency. The scenario you listed under #5 shows why a person should keep some money for emergencies. The dog will get sick, you will get a flat tire, the water heater will leak and need repair/replacement... Without a plan to pay for those unexpected events, the family has little option but to resort to more debt, which undermines their primary effort.

[kurlisola]

I agree, when listing debts, I personally think that all financial obligations (debt) should be listed. It gives one a crystal clear picture of their financial position, with no ambiguities. The only thing that probably shouldn't be added (at least I never did) were monthly revolving utility bills.

Also, I agree with Deb that a budget needs to be made up first, to see if and how much any discretionary money is available. First list your monthly income, the start subtracting out all of your monthly payments (minimum payments), groceries etc... They you will have an amount left over & you can see exactly what you have to work with. Once you have that amount, then look at what your expenses are and see where you can cut. Some expenses are fixed, others fluctuate or are not necessary. If you have a serious debt problem, then first admit that and get rid of what you absolutely don't need. Example, all the extras on your phone; the extra cell phones (sure, there are some people that need them for specific reasons, but no one had them 15 years ago & humanity survived just fine); get rid of your extended cable and movie channels & go to basic cable; lower your thermostat a bit; see about carpooling to work. I found (prior to couponing) that our biggest expense was groceries, I won't really address that here because that should be a moot point on this board-lol.

Also, although I'm not a big fan of large emergency funds, I am a big fan of smaller ones. We never really had one because dh was in the military & was extremely unlikely for him to have lost his job. Plus, if we needed emergency money, then we could have gotten a loan from the military (0 interest). Also, we had a line of credit with the bank ($2k) that was just sitting there, in case we needed it. But, if you don't have these backup's, then I think its very reasonable and prudent to have an emergency fund of $1000. Maybe not saved all at once, maybe just put $100 a month in for 10 months (or longer if you withdraw because your brakes went out or your freezer died).

When we got rid of our debt, the most effective thing we did was lock up our credit cards and checkbooks in a safety deposit box. The only thing we kept was a gas card. Then, twice a month, dh would go to the bank & get the checkbook & bring it home, I'd pay the bills, go buy groceries & he would return the checkbook to the bank the next day. We did this for almost 2 years & the effect was immediate and substantial. Its amazing how you nickel and dime yourself (and how fast those nickels and dimes add up), over the period of a day. No more change for sodas at work (so forced to buy cheaper at grocery store & bring), no more quick lunches at work (brownbag it), no more candy bars at the vending machines, no more mochaccinos on the way to work. With both of us working, this probably added up to about $15 a day (which worked out to $450 a month or almost $5500 a year.

[MaryMary]

While I agree establishing a budget and make it work is stage 1 in debt tackling, OP instructions sounded like stage #2, actual "Kill Bill" operation.. :)

[niftyneon99]

I think that is a great guide to go by! thanks berlinsmommy!

It's amazing how much money you can find by just cutting out simple things in your day!

[berlinsmommy]

Originally Posted by MaryMary IMO, ALL debts should be written down, because as you are rightfully suggesting later we have to prioritize that list. This should be step #2, not # 4.

My reason for prioritizing as step number 4 is that the priorities may shift after the negotiation step. For example, if you have a credit card at 22%, then another at 20%, but after negotiating the 22% drops their rate to 17%, it would fit differently in the list of priorities. I guess you could prioritize at step 2, then re-prioritize after negotiating, just like (hopefully) you will continue to do if you continue to negotiate.

P.S. I was looking forward to your input on this topic, MaryMary, you are very knowledgeable and insightful when it comes to financial matters!

[MaryMary]

Thank you, berlinsmommy.

I guess you'd need double prioritizing, because you'd need to know which debt cost you the most and to put your best foot on it with negotiating. The double effort IMO well worth it.
May I mention credit councelling organizations, they'll help you with negotiating. their fees can be negotiated too... :) but beware of cheesy outfits which will ask you to lie about your income and such in order to get a better deal.
Anyone can suggest good reasons which can be mentioned to your debtors so they'll go with your prepositions to lower rate and/or amounts? Besides begging "pleeeeeese oh pleeeeeese"? LOL

[kurlisola]

In all honesty, when we went on a true budget, the first thing I did was call the credit card companies and ask for a reduced rate. They all said no. What I found was that if you are in debt & its affecting your credit rating (no late payments, just lots of debt), they have you over a barrel & refuse to negotiate...like, what are you going to do about it, kwim? I've heard alot of people say to negotiate, but in all honesty, I can't think of a single case (first hand) where the lender lowered the rates or fees. Of course, with docs you have a bit more leeway & I have heard of them negotiating for payment in full. But if your credit is already messy, I think it is less likely that creditors will negotiate with you.

[cutenirish]

In Aug 2004 i put on the brakes to our spending- we sold our four wheeler and got rid of the property we rented in the Mts that the camper was on. NOT on credit card would lower the rates (25% and up) but we had no lates just high credit to income ratio and some cards that where near maxed out. In Aug 05 we got rid of the SUV for a malibu maxx (gas saver) and a bit smaller car payment. Dec 05 we refinanced the house rolled a bunch of crap in and now have ONE credit card bill instead of SIX -- I know i'll pay for the credit cards for awhile cause they are rolled in but - it saves us about 600 a month == which came in handy this past June we i lost my job :)

I did a budget BEST thing I could have done- now we are on the NV system-- we each get 10 dollars a week to spend as we choose- usually DH gets a lunch out with that and a breakfast on the way to job number two :) I spend some of mine and use some of mine for our shopping as well :)

Great ideas BTW!