Paying off Debt the Smart Way

DEBT can be a scary 4 letter word for many, but you are closer to being debt free than you may think!  It’s important to make sure you are paying off debt the smart way. No one should rely on debt, in fact we should all strive to be completely debt free, and yes this includes your car and home loan!  However, if you are in debt, follow these 5 Tips to Pay Off Your Debt the Smart Way this year!

1. Prioritize and Organize

The first step to paying off debt is to lay it all out of the table.  Figure out every account you owe on, list them with the balance, time account has been open, and the interest rate.  This will help you to stay organized and to better prioritize which debts should be paid off first, consolidated, or put on the back burner for now.

Pro Tip: Depending on your interest rate, it might be smarter to transfer the balance of a higher rate credit card to a lower interest rate card.  There will be a fee to do so, but you may end up saving yourself money by having a lower interest rate while you pay off your balance.

2. Debt Snowball Effect – Dave Ramsey

The concept of this is to pay off the smallest debts first.  These are more manageable and usually a more realistic goal.  When you have multiple accounts (specifically credit cards), you want to pay the minimum balance on all your cards, then make large payments towards the smallest debt you have, until you pay it off completely.  Theses small wins (or small snowballs), eventually add up to large accomplishments over time, and before you know it you are debt free! Read more about Dave Ramsey’s snowball plan here.

Pro Tip: Close your accounts once they’re paid off. If you must keep a credit card for emergencies (ex. you don’t have enough saved in your emergency fund), you want to keep the account that has been opened the longest.

3. Make Principle Only Payments

Many people think that making over payments is helpful to paying off your debt quicker, and this is not the case.  Specifically in an auto loan, when you make an extra payment, you are often just prepaying interest, rather than paying down your principle balance.  The best way to do this is to make and extra payment, outside of your monthly payments, either once a year or once a quarter, and make sure to note that you want this payment to go towards your principle only!

Pro Tip: Create a separate checking account for your loan over payments.  If your auto loan payment is $250 a month, but you want to pay $500 a month, put $250 a month (over payment) into a separate checking account.  This way it seems like you are making your over payment each month, out of sight out of mind, but you are actually saving it up for a monthly or quarterly extra payment.  When you are ready you can pull from that separate checking account and make an extra payment towards your principle.

4. Bi-Weekly Mortgage Payments

This is one of the easiest tricks to execute when paying off debt!  Rather than making one full monthly mortgage payment each month, you will make two half payments each month, or every other week.  Make sure you include all fees, like taxes and insurance.  At the end of the year this adds up to making 13 monthly payments.  One extra payment each year might not seem like much, but this can take up to 8 years off your mortgage!  Imagine how much that saves you!

Pro Tip: If you put down less than 20% and are paying insurance, pay attention to when you are eligible to remove that insurance from your loan.  Many will continue to pay this every month when they don’t need to. This can be anywhere from $300-$500 a month that you could be putting towards your principle!  Once you are eligible, you will need to call your mortgage company and talk to them about removing this, sometime this requires refinancing, but it is usually worth it.

5. To Refinance or Not …. Let’s Pretend

Rather than refinancing, you can act as though you did without actually going through the motion. So essentially you are pretending to refinance without paying the closing costs.  This works well with mortgages as well.  You can make payments as though you are on a 15 year fixed rate, while still being on a 30 year.  This will give you the same benefits, but you won’t have to pay the added fees and closing costs associated with going through a full refinance.

Pro tip: If you do need to refinance, make sure you pay attention to interest rates AND monthly payments.  Make sure there are no hidden fees included in your new monthly payments.  You can have a lower interest rate, but still pay the same monthly payment because of these fees.  Be smart, advocate for yourself, and make sure you are getting the best deal.

Here are some tips to fitting this all into your budget.

-Kristin Francy, Insurance and Financial Service Agent