December 12, 2019
If you follow any financial forums, blogs, or micro-influencers, you likely see a lot of content about timelines to becoming “debt free,” but what does that really look like?
Becoming debt free may feel like a pipe dream, but it is possible, especially if you start making even the smallest adjustments now. Eliminating debt not only helps you get your finances back on track, it allows you to focus on your other financial goals, like saving for retirement, an emergency fund, home renovations, a vacation, or education for yourself or a family member.
Beyond allowing you to save for other goals, digging yourself out of debt can help you stop feeling like you’re on the edge of the next disaster. Those with significant debt risk losing assets like their car or home if they lose a job or face a major medical emergency that makes it hard to pay monthly bills. You can even be sued for nonpayment. That stress isn’t just mental, either. Studies have shown that financial stress can trigger other major health issues, like allergies, diabetes, and more.
Just like accumulating debt can have a snowball effect, getting out of debt can feel similar. Having less debt means you can improve things like your debt-to-income ratio and credit score, allowing you to secure lower interest rates on loans in the future. It also can help you land a better job, as employers often check credit history. If they see you have a lot of debt, they may consider you a risk to the organization, more likely to commit theft or fraud.
Debt-free means different things to different people. If a balance sheet reaching zero feels impossible, take a step back at your financial goals and decide what needs to be paid off for you to reach a comfortable stage in your finances. While not everyone can become completely debt free, you can work towards becoming bad-debt free. Here are the steps you can take right now to work toward your debt-free goals.
1. Create a Budget
You may have heard people who are successful savers or financially sound say they “spend within their means.” But what does that mean?
The first step to spending within your means is to take stock of all of your income—and all of your expenditures. The good news is it is possible to create your own financial plan without a financial advisor. You just need time and an honest look at your finances to do so.
Armed with that information, you’ll know how much money is coming in, how much is going out, and where you can reduce spending to ensure you’re earning more than you’re spending.
2. Reduce Your Spending
Looking beyond necessities like food and your mortgage or rent, you’ll want to look at areas where you can reduce spending. Can you eliminate one of your monthly subscription services? Can you find coupons for groceries?
Living within your means requires earning more than you spend, but it also means saving for major purchases instead of purchasing them on a credit card, or waiting to buy a new car until your credit score allows you to score a low interest rate. These steps will help you spend less money over time because you’ll pay less in interest.
Of course, there may be times when you absolutely need something. But those that become debt free also get disciplined in distinguishing between a need and a want, sacrificing a new TV or a Friday-night dinner in a restaurant in order to stick to their ultimate goal. It may not be fun to live within your means as you eliminate debt, but it can mean greater rewards down the line.
3. Add Income Streams
If you can’t reduce your spending and your income is still less than your expenditures, consider finding additional income streams. For example, as a homeowner in a popular area, you may be able to rent a room on Airbnb. Or you can get a job on the weekends, offer to pet sit your neighbors’ dogs, or join a car-sharing service.
4. Prioritize High-Interest Debt Payments
The first step to chip away and, ultimately, eliminate your debt is to pay off bad debt—the debts that won’t help you grow your wealth. Generally, these are purchases you put on a credit card or loans you use to buy items you don’t need and aren’t investments in your future.
Good debt is anything that is likely to help you get on firmer financial footing in the long run. For example, business owners may still have debt as they work to get their business off the ground and a medical student may take out loans to pay for tuition.
Once you have your debt categorized as good or bad, many individuals choose to focus on the highest interest debt first. The longer you take to pay debt, the more you pay in interest. With high-interest debt, the interest can add up fast, turning what you thought was a $250 purchase into a $400 purchase.
5. Set Measurable Financial Goals
People that achieve their goals are often the same people that write down their goals, come up with the step-by-step plan for how they’ll achieve each goal, and check in from time to time on their progress.
For example, a measurable goal in this case may be “Pay off the $5,000 on my credit card with 20% interest in six months. In order to do that, I need to pay an extra $250 each month. I will get an extra job on the weekends for these six months to make those payments.”
6. Leverage Your Good Debt
As a homeowner, you have access to a major asset: your property. Every payment toward your mortgage builds equity in your house. For many homeowners, this equity holds the key to eliminating other debt, fast.
With a home equity investment, like a Hometap Investment, you can tap into the equity you’ve built in your home. You get cash in exchange for a share of the future value of your home. Since it’s an investment, there is no interest and you don’t make monthly payments. Instead, you can use the lump sum of cash to pay off your debt or make it more manageable. For many homeowners, this can feel like hitting the restart button, allowing them to get their finances back on track.
Remember: Becoming debt free will look different for you than it does for your neighbor because your goals, financial and otherwise, are likely very different. Create your plan and stick to it, revisiting every month or so to make sure your payment schedule makes sense for your short-term needs, as well as your long-term goals. Each step you take, no matter how small, is one step closer to getting your finances on track.
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