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How to Pay off Your Debts!

Forum: Financial Planning and Budgeting


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September 15th, 2006, 09:50 AM
BensMom's Avatar Ephesians 4:29
Join Date: Apr 2005
Location: The Lonestar State
Posts: 50,214
DO NOT REPLY TO THIS THREAD! If you have questions about your own debts, please put them in the main forum.

You've got a stack of debt bills - things like the car, the student loan, a few credit cards, a personal loan, etc. You want to pay them all off quickly and with the least amount of interest possible, but you don't know how, right? Here are some guidelines to help you figure it out.

(1) Make a list (or spreadsheet/table) of everything you've got by writing down the debt, the balance, the minimum payment, and the interest rate like this:

(2) Sort the list with the largest debt at the top and the smallest at the bottom. Like this:

(3) Usually, but not always, you'll start by paying off the smallest debt first. Many people make the mistake of paying off the one with the highest interest rate first thinking they'll save money that way, OR they'll try paying a little extra on every debt to pay them all down at the same time rather than paying off just one at a time. By paying off the smallest debt first, you'll get it paid off very quickly and have the minimum payment freed up to apply toward the next smallest debt. It's called the "snowball" effect or "rolling payoff plan."

(4) Exceptions to the rule:

a. Past due accounts. Always get your accounts up to date before applying extra money toward other debts.
b. Special financing offers. If you have, for example, a furniture set that was bought "1 year same as cash" or something like that, it means that you'll pay 0% interest until the date noted on the account. After that date (read the fine print), you'll either start paying interest from that point OR (usually) you'll be charged all of the back-interest you would've paid all along if you weren't on the special financing plan. Be sure to pay off special accounts 1 MONTH BEFORE the date on the account to be sure there are no hidden tricks.
c. Things you don't want to think about. It's not something we like to talk about, but if you've had to prematurely bury a family member, you don't want monthly payments to remind you of the fresh wound. Pay off hospital bills and funeral bills as soon as possible so that you can properly grieve and save yourself a lot of stress.
d. Similar debts. This is the one most people should really pay attention to!! If two debts have roughly the same balance, pay off the one with the higher monthly payment first. If the monthly payments are roughly the same, pay off the one with the higher interest rate first (notice the similarity between car-2 and credit card-1). If those are roughly the same, and one is tax deductible (student loan, mortgage, etc.), pay off the one that isn't tax deductible first (car, credit card, etc.) Notice the example of car-1 and student loan-1 below. Here's what the final sorted list should look like for this example:

(5) Put every single leftover penny you've got toward the debt that ends up on the bottom of the list after going through the guidelines. Pay ONLY the minimum payments on everything else until that debt is paid off. Continue this pattern up the list. By doing so, you'll "snowball" your monthly payment. That means your payment will gradually get bigger, because when one thing is paid off, the minimum payment that was going toward it will move up the list to the next debt. For example, when all of the credit cards on the above list are paid off, you'll have $209.23 EXTRA to put toward car #2. That's more than double the monthly payment, so you'll have the car paid off in less than half the time.

(6) What happens when "life happens?" You go back to school and pick up another loan. You trade in your car.... whatever. Easy. Start at the top of the list and go through the guidelines again.

(7) The big question people often ask... "My debts are paid off except my mortgage. Now I have an extra $1000+ per month. Should I pay off the mortgage or put the money into retirement?" The quick answer is "both." The real answer will vary on a case by case basis. You'll need to look at your age, your retirement goals, compounding interest, how much you have left on the balance, etc. The calculators below should help you. Post your specifics on the main forum if you need help. There really are a lot of "what if's" when it comes to mortgage vs. savings. Too many to list here.


Credit Card Debts
Mortgage Payoff/Payment
Car Payments
The Real Cost of Credit Card Minimum Payments
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April 29th, 2007, 03:13 PM
BensMom's Avatar Ephesians 4:29
Join Date: Apr 2005
Location: The Lonestar State
Posts: 50,214
This is from zacksmama... I didn't want the info to get lost, but we've already maxed out our stickies. I'll quote it here. If you have questions, put them in the main forum. Not here. Thanks!

So you've heard mixed reviews.

You've seen the commercials and ads that boast lowered interest rates, more affordable monthly payments, and that you'll be out of debt in a matter of months.

On the other hand, you've heard that credit counseling is as bad for your credit as bankruptcy, that it could cost you a job or a new home purchase. Maybe you've just heard to avoid them at all costs with little explanation as to WHY.

Let's address some of these claims.

First off, I used to work in finance before I became a sahm. One of my duties was to be the liaison between my company and credit counselors. I was the one to review proposals, lower rates, negotiate payments, code the accounts appropriately, and follow up with them. So I have firsthand knowledge of how they work, or maybe I should say, don't work.

CC=credit counselor or credit counseling company

Claim #1: Lowered interest rates.

TRUE. They can negotiate with your creditors to lower your interest rates, many of which are at defaulted rates of 30% and up. There are some creditors who will not lower their rates, and there are others who will waive your interest all together, most fall somewhere in between.

Why would the companies do this? Because they are terrified of you filing for bankruptcy. Once you file for bankruptcy, they lose all their money, not only the interest, but all of the money they've loaned to you as well. In weighing the risk, they decide to lower or waive your interest.

Many times, you can do this yourself though. You do not need the credit counselor to be the middle-man.

Claim #2: More affordable monthly payments.

TRUE. What they don't tell you is that your creditors may not have agreed to lower your monthly payments and your account is falling farther and farther behind each month. They basically send a "proposal" to each creditor suggesting a specific payment amount. However, if the creditor doesn't agree to the proposal that the credit counselor suggests, the credit counselor just pretends that they did. The creditor is no longer allowed to contact the customer, they can only contact the credit counselor, so quite often, the borrower doesn't even realize that their account is becoming more past due each month, and that instead of being paid off, their account balances are rising!!!! This is all very difficult to explain, so let me give you an example.

Borrower has 4 bills and cannot afford to pay them all. The bills are as follows:
#1. minimum payment $100
#2. minimum payment $20
#3. minimum payment $175
#4. minimum payment $140

CC (credit counselor) looks at the budget and realizes that the borrower can only comfortably (notice I use the word comfortably) afford $200 a month. CC divides the amount borrower can afford by the amount due ($200/$435=46%). They then contact each creditor suggesting that they lower the minimum payment to 46% of what it already is.

#1. $46.00
#2. $9.20
#3. $80.50
#4. $64.40

Whether the creditor agrees to it or not, the credit counselor starts sending the proposed amount. Many times, this amount does not even cover the interest that is accruing, even when the interest rate is lowered (which most companies will do, but most do not eliminate interest entirely). Since the minimum payments aren't being met, the account falls farther and farther behind, all without the customer even realizing it!!!! Yeah, you don't get collection calls, but that does not mean that everything is peachy-keen.

Claim #3: You will no longer receive collection calls.

TRUE. Once you are going through CC, your creditors are no longer allowed to contact you about your account. They can only contact your CC company. This sounds good in theory. Unfortunately, CCs will not tell you that your account is past due, and if your creditor can't contact you, then you remain in the dark. You could maybe even come up with the extra $10 a month that it would take to make your full payment and keep your account current, but without the knowledge that you're past due, you can't fix the problem. What does this mean for your credit? You are accruing more 30/60/90 day lates each month. Basically, your credit suffers and your credit score plummets.

Claim #4: You will be debt free in xx number of months.

RARELY. While CC does work for some people, it does NOT work for most. As I stated above, many times instead of your balance dropping, it increases because the accruing interest is greater than the payments being made. Any balances that drop due to waived interest are off-set by the rising balances. Basically, you end up simply treading water.

So you're thinking "Wait, you just said it DOES work for some people. Maybe I'm one of those people." Possibly. Unfortunately, if you're considering credit counseling, then you probably aren't one of those people. I'll address this issue later on in the post. There are a couple more points that I need to touch on first.

Rumor #1: Credit counseling affects your credit as badly as a bankruptcy.

FALSE. It is true that while you are on CC, you will be turned down for any new debt you apply for. However, as soon as you cease to be on CC, it will not affect your credit any longer.

While on CC, each account will have a comment below it "Consumer Credit Counseling." Once you stop going through a CC company, these comments will be removed from your credit report. A bankruptcy prints out at the very top of your credit report under "public records." It remains on your credit for 10 years after it has discharged. It will continue to affect you for all of those 10 years. Each account will have the comment "Included in bankruptcy" underneath it. That comment will remain on your credit until the account drops off, usually after 7 years.

So, while credit counseling affects your credit as badly as a bankruptcy while you're using it, it does not have the lasting repercussions of a bankruptcy.

Rumor #2: Credit counseling could cause you to be turned down for a new job or affect your ability to buy a home.

TRUE. Many companies pull someone's credit before hiring that person. The reasoning behind this is 1. You can often tell how reliable someone is based on their credit and 2. If you cannot handle your own finances, you should not be relied on to handle someone else's finances (the company's).

Same rings true for buying a home. When the lender sees that you cannot manage to pay your current obligations, they will not want to lend you money to increase your debt further.

Who does credit counseling work for?

VERY FEW PEOPLE. Like I said above, if you are considering CC, then you are probably not someone who can use it to your advantage. There are 2 scenarios:

1. If you can afford to make all of your payments now and are not planning to make any major purchases for the next several years, then you may be able to make credit counseling work for you. You can contact your credit card companies on your own and get them to lower your interest rate. However, you will be hard pressed to get them to waive your interest altogether. Since you are virtually guaranteed at least a lowered rate, and as a bonus, maybe 1 or 2 of your creditors waive the interest altogether, then you will get your debts paid off faster. You will need to tell your CC that you are not interested in lowering your payments, you just want to get out of debt ASAP. You will also need to stay in close contact with your creditor to be sure that the payments are being made on time and in the full amount. I would not recommend using credit counseling in this manner.

2. You can easily afford to make your payments, but you just don't have the time or organizational skills to actually pay your bills. CC is like having a free accountant. They automatically withdraw the money from your bank account for you and make all of your payments. Your late fees are eliminated and your default interest rate drops back down to a reasonable rate. However, the CC are enabling you. You are a person who should not be using credit cards. If you can't be bothered to pay the bill when it comes in, then your cards need to be closed and paid off. If you need to use a CC to actually make the payments for you, then by all means use them, but don't accrue any more debt ever again. You should keep in close contact with your creditors to be sure that the payments are being made, but let's face it, you won't.

Are you on credit counseling right now? Dig out your most current statement and contact each company directly. Ask them if your acct is past due, how far past due, etc. You need to know what is going on with them because the credit counselor will just tell you that everything is taken care of and not to worry about it. You may also want to order a copy of your credit bureau. Whatever you do, don't continue to ignore the situation and hope that your CC is handling your finances properly.

I think I've addressed all of the different issues, but if anyone has any questions, feel free to ask. [/b]
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