I learned to manage debt from watching my parents. They hate debt. They’ve never carried a credit card and they hate the idea of owing people money. As soon as they can, they will pay off their bills. My eldest sister is the exact opposite. I remember one time when I was in high school, she had moved out on her own and racked up a number of parking tickets. The fine on the parking tickets had grown to a substantial amount (if I remember correctly, it was $800 or so) and my sister had received notice that her driver’s license would be suspended if she didn’t pay the fines off by a certain date. At the time, she was living paycheck to paycheck and couldn’t afford to make the payment. Without a driver’s license, she would not be able to get to work, which would have made matters worse. I remember how much it stressed my dad out. He was constantly worrying about her. After giving her an earful, he saved up the money and drove downtown to make the payment. This is one of many experiences that has mold me into the person that I am today.

When I graduated from college, I had more than $15,000 in student loans. Compared to the average American, I was lucky to owe such a relatively small amount. Despite the fact that the interest rate was fairly low, having debt bothered me, so I aggressively worked on paying it off.

If you want to become financially independent, you’ll need to work on knocking out your debt*, especially any debt with a moderate to high interest rate (i.e. over 8%). (If the highest interest rate on your debt is 7% or lower, I personally would not be as aggressive with paying it off since you want to take advantage of the lower interest rate and use the leftover money to invest in the stock market, which can produce a higher return.)

If you need help getting started, below are two popular methods of paying down debt. While the explanation may seem simple, make no mistake–it’s not easy. It’s why some people are stuck in the debt cycle and have such a hard time getting out of it. If you have a large amount of debt, you should approach it the way one would go about eating an elephant—one bite at a time.

1. Forgive yourself and any money mistakes you and/or a spouse has made in the past. It’s easy to beat yourself up over it, but that won’t fix the problem. It may have been beyond your control, like a medical debt, or it may not have been, but what difference does it make at this point? Acknowledge that you have debt and focus on a solution. That means making a plan to pay it off and to not create any more debt–that’s all that matters at this point.

2. Figure out how much you owe. Create a spreadsheet with a column for Description, Balance Amount, Interest Rate, and Minimum Payment and fill it out with all of your debt information.

Example:

Description Balance Amount Interest Rate Minimum Payment
Credit Card #1 $5,000 15% $60
Credit Card #2 $2,000 14% $35
Student Loan #1 $15,000 6% $100
Student Loan #2 $7,000 6.50% $140
Mortgage $400,000 3.50% $1,796

3. Choose a debt payment method: Debt Avalanche or Debt Snowball.

Depending on which method you choose, sort the spreadsheet by Interest Rate (Debt Avalanche) or by Balance Amount (Debt Snowball). Academic research has shown that the Debt Snowball method is the more effective method of the two, and people who use the Debt Snowball method have a higher success rate because it offers a feedback loop in which you feel rewarded after paying off each balance, and therefore, you would be more motivated to continue on that path. Math-wise, the Debt Avalanche method will save you more money over the long run, but fewer people have the discipline to stick to it.

Debt Avalanche

a. Make the minimum payment on all of your debt.
b. If you have any money leftover, apply it to the debt with the highest interest rate.
c. Once you’ve paid off the debt with the highest interest rate, apply leftover money and the money that would have gone towards the minimum payment of the debt with the highest interest rate to the debt with the next highest interest rate.

Example:

Lender Balance Amount Interest Rate Minimum Payment
Credit Card #1 $5,000 15% $60 <– Apply additional payments to this debt.
Credit Card #2 $2,000 14% $35
Student Loan #2 $7,000 6.50% $140
Student Loan #1 $15,000 6% $100
Mortgage $400,000 3.50% $1,796

Debt Snowball

a. Make the minimum payment on all of your debt.
b. If you have any money leftover, apply it to the debt with the lowest balance.
c. Once you’ve paid off the lowest balance, apply leftover money and the money that would have gone towards the minimum payment of the debt with the lowest balance to the next lowest balance.

Example:

Lender Balance Amount Interest Rate Minimum Payment
Credit Card #2 $2,000 14% $35 <– Apply additional payments to this debt.
Credit Card #1 $5,000 15% $60
Student Loan #2 $7,000 6.50% $140
Student Loan #1 $15,000 6% $100
Mortgage $400,000 3.50% $1,796

5. Review your budget to see where you can cut expenses so you’ll have more money to apply towards paying off your debt. If your goal is to pay off your debt as soon as possible, consider cutting all of your discretionary expenses (no more happy hours, movies, cable, traveling, etc.) temporarily and find a way to reduce your necessary expenses (shop for cheaper car insurance, move to a smaller place or get a roommate, cook at home, etc.).

Once you’ve taken care of your debt, you can look forward to more exciting things like investing!

Do you have any other tips for paying off debt?

*Not including debt that is leveraged correctly, such as real estate debt for an income-generating property.
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How to Tackle Your Debt