Reducing Debt Before It's Too Late
It usually isn't a high priority for people until they have already gotten
into trouble with overspending.
Reducing debt is easy using a few basic guidelines, and debt
calculations, to help you see when your debt load is getting into the danger
zone. Learn how to avoid the pitfalls of creeping debt.
Budgeting Guidelines
First off, creditors use
budgeting guidelines when reviewing and approving credit. If your debt exceeds
the financial communities recommended guidelines, then you have a higher risk
of credit applications being denied.
Getting, and keeping, your debt in line with recommended
budgeting guidelines, is an important step in when reducing debt.
Use the following recommended budgeting guidelines (the same ones used by
Financial Institutions) to review the items in your budget:
- Housing 35% - Mortgage or rent, taxes, repairs, improvements,
insurance, and utilities;
- Transportation 20% - Monthly payments, gas, oil, repairs,
insurance, parking & public transportation;
- Debt 15% - Credit cards, personal loans, student loans
& other debt payments;
- All other expenses 20% - Food, insurance, prescriptions,
doctor & dentist bills, clothing & personal;
- Investments & Savings 10% - Stocks, bonds, cash
reserves, retirement, rental real estate, art, etc.
Debt Income Ratios
The second step is calculating your debt income ratio. Once you know what
your ratio is, you will understand just how important debt load is to your
overall financial picture. Your
debt income
ratio is the percent of your monthly take-home pay that goes to paying
debts.
You calculate it by taking the amount needed to repay debts each month, including
rent or mortgage, and divide by your take-home pay (your net pay after taxes).
Remember, this is "Debt" ratio, so only include actual debt repayment
in the calculation.
Credit To Debt Ratio
Just because you pay off a credit card is no reason to close your account.
One little known fact about the Credit to Debt Ratio is the reverse effect
it has on your credit score. If you pay off a credit card, and close the account,
you are actually negatively impacting your credit score.
The reason for this negative effect is in the calculation of the Credit to
Debt Ratio itself. This ratio is the relationship of your debt total vs. your
credit limit. You calculate it by dividing the total credit limit of all credit
cards and loan accounts by the total of the actual debt (spent total). Now,
if you pay off a credit card, you are reducing the actual debt, which is great,
but, if you close the account, you are also dramatically reducing the credit
limit you have, and usually by a higher percentage than you are reducing debt.
Pay Yourself First
Essential to long-term financial success, and protecting your future, is paying
yourself first. While this may seem easy to do, it happens to be the last
thing most people do, instead of first. Debts and other financial obligations,
money for entertainment, and other spending always seem to take a higher priority.
All I can say is, STOP! Think about it, if you aren't worth being paid first,
then who is? Always put something away in your savings, and leave it alone.
It doesn't matter if it's only $5 a week, just do it!
Snowball The Credit Cards
Last, but not least, is making extra payments, not just the minimum payments,
on your credit cards. You have probably already seen this method to reducing
debt many times, but it just can't be stressed enough.
Paying
just $10 extra a month on a credit card, above the minimum required payment,
can cut your repayment term in half, if not more! So, squeeze out that
extra payment, however small, every month, and take advantage of the compounding
effect of snowballing your way to reducing debt.
The Power of Financial Knowledge
Remember, you don't have to be a financial whiz to understand what's going
on with your credit and debt. Just a few simple calculations, and an eye on
the future, will go a long way to help you succeed financially and keep your
debt under control.
Be safe, be smart, do the math!
Get rid of your credit card debt for good and save 40% ...
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