Dig yourself out of debt while also building up savings to be sure you don’t undo your hard work when an emergency strikes.
Paying off debt can be much like building with sand at the beach. Just as you start to make progress on your sandcastle, a wave comes and washes away your progress. Likewise, if you’ve been working hard to pay off your debts, but you encounter an expected expense, that emergency can easily wash away your financial progress since you have no way to pay for it short of the credit cards you just worked so hard to pay down.
As you work to pay off debt, it’s important to build some savings into your budget. This can feel contradictory and can be a challenge to do simultaneously, but it is important for your financial health. Without savings, you’ll be back in debt with every extra expense.
Ready to get your financial life back under control? Start by clarifying your budget and finding ways to automate your savings.
Create a Budget
Your first step to financial freedom, or at least less financial worry, is to create a realistic budget. Your budget will need to include all your expenses for the month, broken down by category and necessity. Your rent or mortgage payment? Necessity. Your car payment? Necessity. Your weekly bar crawl with buddies? Not exactly a necessity, especially if it’s an expensive indulgence.
A budget doesn’t have to mean you’re depriving yourself of all the fun in your life. Instead, a good budget is designed to help you see how much you need to spend on certain things and how much is available for other goals you might have, like paying down debt and saving money.
Determine Your Discretionary Income
Once you have the basic budget done, look at what’s left over each month. If you don’t have any “extra” money left in the budget, you might need to take a hard look at what big items you can cut out of your numbers to make some room. The more room you have in your budget for discretionary income, the faster you’ll be able to work toward your goals.
Automate Your Savings
The adage is still as true as ever: Pay yourself first. That means you need to set up your savings before you do anything else. You’re likely locked into most of your payments already, so we’ll modify the idea to say that you should pay yourself as soon as you can.
Of your discretionary spending, budget a healthy amount for your emergency savings. The goal is to get $1,000 – $2,000 in your savings account quickly, so it might be that you don’t pay down any debt at all for a month or two to build up your savings account.
Once you have some cushion built up for the unexpected, automate your savings. Start with a small amount of extra savings every month to help your savings account grow a bit, but at this point send most of your discretionary income into paying off debt.
Have a set amount taken from your checking account every month and put into a savings account. Or, if your paycheck allows it, split your pay into two accounts – one for bills, and one strictly for savings. If you can, consider “hiding” your savings in a different bank so that you aren’t looking at it as potential spending money every time your checking account starts getting low at the end of the month.
Pay Down Debt
Once you have your budget in place and a bit of healthy savings, it’s time to really attack your debt. Start by paying the minimum amount on all your credit cards and loans. Then take the discretionary income you have after your budgeted spending and your automated savings and send it at one card. Some people like to start with the smallest balances to pay those cards off faster, or you can pay down the most expensive loan first.
Keep sending extra payments at the first account until it’s paid and then roll all the money you were sending to that card over to the next debt in line to be paid down. Keep paying down cards and rolling the payment over to the next in line until all your debts are paid. As you pay down multiple debts, the amount you’re using to pay the next will grow and speed the process up over time.
Consider Consolidating Debt
If you worry about having the discipline to pay down multiple cards and loans over time, you can pay them off all at once by using a debt consolidation loan. To take out a loan, you’ll typically need to apply, go through a credit score check, and then use the large amount of the loan to pay off all of your smaller debts.
This consolidates all your debt into a single account. Once you’ve paid off your multiple small loans, you just have one large debt to pay down using set monthly payments over time, making the process potentially faster and easier to budget. Don’t have great credit? There are bad credit loan options available that can be used for debt consolidation as well.
Should you find it hard to get approved for loans continue to read on how you can fix your own financial situation so that you might be in a better position to take care of your finances.