How to Pay Off Debt

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How We Paid Off $35K of Debt in 3.5 Months

Why do you think there is an overwhelming amount of content out there to tell you how to pay off debt? It’s because so many people still fall into the debt trap.

Student loans. Car loans. Credit card debt. HELOC’s. Personal loans.

I agree that there can be “good” and “bad” debt (see this article from Budgetology that gives a concise breakdown), but look at the “bad debt” loan totals in the U.S.

Car loan totals are now over $1T (that’s trillion), and they’ve stretched those loans out to nine years. Student loans are now $1.5T as of the date of this post, and continuing to climb quickly. Credit card debt is over $1T, exceeding pre-recession levels and at an all-time high. All this to say is that people are still getting themselves into massive amounts of debt, despite all magazines, podcasts, radio shows, books, blogs, and almost any other medium that tell you not to.

I’m no stranger to debt either, I’ve made my mistakes, too. When I was 23, I bought a car for $19K and used a loan to finance it because I could “afford the payments”. Yes, I could afford the payments- but I also could’ve afforded to set aside the money and pay cash for the car. The interest rate wasn’t even high and I paid it off a few years early, but it still bugs me that I was letting go of my hard earned money like that.

What is probably most irritating to me even years later is that I used a loan simply because that’s what “everybody else was doing”. My parents didn’t do that, so it’s not like getting car loans was a way of life that I was taught. The problem was that it seemed like everybody else did it so I thought it was just “normal”.

You know what was even worse? I thought a car loan would be good for me! My credit report listed “lack of installment loans” as a reason for my credit score not being higher, so I took it as a negative thing. In the back of my mind, I always thought it was weird that not having debt was a bad thing, but even then I still fell into the trap of wanting a higher credit score and that a car loan could help me do that. Oof! I’ve heard people, particularly young people like I was, wrongly fall into this thinking.

Besides the car loan, the only other loan I’ve had is a mortgage. I did, however, inherit $35K in debt when I got married that needed to get paid off. This was a combination of bad car loans and a couple of student loans of my husband’s. He’d been paying them for a while but they weren’t really going anywhere. These are the steps we took to get rid of all that old, bad debt in three and a half months!

Have a plan

You need to budget.

I know you probably didn’t want to hear that, but this is the #1 best place to start paying off debt. If you think you’ll pay extra to your debt after you’ve spent your paycheck on everything else, you won’t. I promise, you won’t. You have to plan it out.

When you use a budget, you know how much you need to survive until the next paycheck comes. You already know what your surplus is from each paycheck, you don’t wait until right before the next paycheck to see if you have an extra leftover to pay your debt. You make your debts payments right away when you get paid and the rest of your money is to live off until the next paycheck.

I have links to my other articles that will help make a budget, making a budget with your spouse, and how to manage your money so you stick to your budget.

Identify your sources of repayment

When I used to do business loans, I would look at their financial history to see if they could repay the money I was lending. I was determining how they were going to pay us back. For most of us, that source is our regular 9-5 salaries. But is there more you can do?

Do you have stock you can sell? Do you have other large items you can sell? Do you need to sell a lot of small stuff to help make a dent in your debt? Are you expecting a bonus? Are you expecting a large tax refund? Do you get paid 26 times per year but budget off two paychecks per months? That’s two extra paychecks per year you could apply strictly to debt.

We used a combination of things: we got a surprise large refund, I knew I was getting an annual bonus, we both had months where we received an extra paycheck (people with bi-weekly pay schedules get this), I sold some stock, I reduced our retirement withdrawals to only be enough to get our matches, and we maximized our paychecks. (See this post for what I mean by maximizing your paycheck.)

Once you’ve identified these, make a calendar of when you’re going to apply these. I made a calendar in Excel of when we got paid, I knew the days I would receive my bonuses, etc. I wrote down (or input, because it was Excel) how much on those dates I would be applying to debt, and what my new debt balances should be. This way, I knew when were going to have all debt paid off.

The reason I suggest taking the time to schedule all this out is to help you visualize having your debt paid off. When you think of paying a mortgage for 30 years, you don’t really think about not having a loan because it’s just part of your normal. Same thing applies with other debt, especially if you’ve had it for a while. I think you’ll be more motivated to stick to your debt payoff plan when you’ve planned your payments and you have a goal date.

Pick your debt pay off method

I’ll start with one of the most popular- if not the the most popular- method, called the “snowball method”, coined by Dave Ramsey. I know there are strong opinions out there about Dave Ramsey, but his debt pay off programs have some merits and you can decide how to use them to approach your own debt.

This is starting with your smallest debt first, moving on to the next largest debts after that, until your last one is paid off. Your smallest debt receives the largest chunk of money while the other debts just receive the minimum payments until it’s their turn to be eliminated.

The reason this method is so popular is that people feel psychological victory once they start seeing debts paid off. The belief is that by the time you get to the largest debt, you’ll be so ready to have all your debt gone that you will be extreme in what you do to pay off that last debt, even though it was larger than your previous ones.

Another method is to pay off your debts that have the highest interest rates first, known as the “avalanche” method. The idea is that you’ll be saving on interest expense. My feeling about it is less about saving on interest and more about you gaining traction. If it’s credit card debt and you’re paying 26% interest on it, yes, you might want to pay that off right away to just stop the bleeding.

You can read more details about both of these methods here.

I am not opposed to consolidating your different types of loans if it’s actually going to be helpful to you. If choosing the snowball method and disregarding the 25% interest on your $10K credit debt to pay off the smaller $5K auto loan with 5% rate first, I think it’s okay to shift that debt to something that doesn’t have as high of interest. Since you already have credit debt, could you move that debt to a card that has a 0% rate for 21 months while you tackle your other debts? That at least stops the bleeding while you’re making some psychological gains in your debt pay down journey. If you do this though, you’d better have a plan to pay off that $10K by the time the interest holiday expires.

We actually used the snowball method. The reasons we did this was because we didn’t have any high interest debts, and I wanted to be able to be focused on the largest ones. What I mean by “focus” is that I wanted all the other little debts paid off so our excess money was “focused” on the largest debt by the time we got to it. Our money was no longer being spread out to other debts.

Closing

We started our big debt pay off a few years ago in mid-February and had everything paid off by the beginning of that June! We were lucky that we each had paychecks to contribute, it was tax season and annual bonus time, which really gave us a big boost to eliminate the debt quickly. I kept a copy of our planned pay off amounts just to remember that we accomplished a lot in a short amount of time, and that we don’t want to go through that again.

I hope this is encouraging to you and will help you be successful in your debt pay off journey. Please check my other articles I’ve linked because they will all help you in this journey. The same methods I employed to pay off debt will also help you after you have no debt and you start building your savings!

RELATED

See my post about how to make a budget if you’re unsure how to start.

See my post about budgeting with a spouse.

See my post about managing your money so you can stick to your budget.

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