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Michael Vidal, CFP®

AUG
31
Strategy To Get Out Of Debt

If you are like many Americans, you may be in debt and wondering how to escape the clutches of interest payments and the oppressive bills that come every month. Here is a list of bills that might look like your situation.

 
Debt Holder
 
Amount
 
Interest Rate
Minimum Monthly Payment
Car
$7500
3.45%
$200
Bank Card
$6000
13.5%
$175
Personal loan
$2500
5%
$50
Department Store
$1250
12%
$75
Department Store
$1000
12%
$75
Department Store
$850
10%
$25
Total
$19,050
$600
 
If this list depresses you, join the club. You want to pay them off and become financially free. Where do you start? Look at this list carefully. You owe $600 every month and you are barely making a dent in what you owe. Plus, if you are like most folks, you are continuing to use your credit cards. So the hole keeps getting deeper. You begin to feel your only option is to go bankrupt.
You are struggling to keep your credit rating. But it is getting harder and harder to make the payments every month and still feed the babies and make your rent payment. It is a deep, dark hole of despair and you are wondering if you can ever escape.
Debt is a vicious carnivore of wealth. Once you are in the cycle of debt, it is very difficult to escape its clutches. You have to come to a place where you are sick and tired of being sick and tired. When this happens, you are ready to leave it the debt behind and build a whole new financial persona.
Let's start at the basics. What is debt? It is the present value of future expenditures you had to have, now. In other words, you made the decision to sacrifice future income for a current purchase or acquisition. Most debt could have been avoided with self-control, and personal discipline. But the desire to acquire the item today caused you to prepay with debt. So before you go into the proverbial deep, dark hole of debt, ask yourself if you really need to have this today. Or could you wait until you saved the money, so you could pay cash.

Let's look at the rules for debt and the way to escape it.

First, credit cards are NOT your friend. They are insidious because they charge huge interest rates and once you owe them, it is difficult to pay them off.
Second – buying a car, a house or other major acquisition is an acceptable use of debt. Just be careful the payments are affordable. Have a budget and follow it.

Third – if you go into a typical bank and tell a banker that you need to get out of debt; a typical banker will come to the same conclusion (most of the time) and tell you to consolidate your debt.  I am not against Consolidating debt.  I am just for fixing spending habits, before consolidating debt and this is what this blog is about.
Credit cards are merely a convenience. They are a substitute for cash. But you have to pay them off every month, or you become a slave to your debt. But debt for acquisition of large items makes the purchase affordable. No one would expect you to buy a house for cash, or a car.
If you are ready to payoff your debts. Here are some steps to follow that can help you.
1. Order all of your debts by amount you owe each month and interest costs. Make a table of debts so you can see what you owe.
 
Debt Holder
 
Amount
 
Interest Rate
Monthly Payment
MinimumMontly Payment
Car
$7500
3.45%
$200
$150
Bank Card
$6000
13.5%
$175
$125
Personal loan
$2500
5%
$50
$40
Department Store –A
$1250
12%
$75
$50
Department Store –B
$1000
12%
$75
$50
Department Store –C
$850
10%
$25
$15
Total
$19,050
$600
$430
Difference
$170
 
2. Pick the lowest cost debt on the list – Department Store C in this case. The Monthly payment is $25.
3. Figure out what your minimum payments are on all of the debt. Usually you there is a difference between the recommended payment and the minimum payment. You will have to check. In this example – there is $170 difference.
4. Use this difference to pay off the smallest debt FIRST. By doing this, you will pay it off in 5-6 months.
5. Now – take the $170 and add the $25. This equals $195 (The $25 you were paying to Department Store C PLUS the $170 you used to pay off the debt).
6. Now put $195 this towards Department Store B along with the $50 you were already paying them. ($50 +$195 = $245.).
7. How long will it take to pay off Department Store B? About 4 months. WOW!!! You have eliminated two debts and now you only owe $17,200.
8. Time to payoff Department Store A. Take your surplus $245 and add it to the $50 you were paying Department Store A. ($245 + $50 = $295). Pay all of this on your Department Store A balance. In 5 months you will be done with it. Meanwhile, remember, you are continuing to make the minimum payments on the other debts so they don't get any higher.
9. At the end of 15 months – you will have eliminated $3100 of debt and have $295 extra to apply to the personal loan. Add the $40 you were paying on the personal loan to the $295 debt reduction surplus. That equals $335.
10. In 8 more months you will have paid the personal loan and all you will owe is the Bank card and your car.
11. Keep this going and you will be out debt sooner than you think.
See how it works. Try it. You will be surprised how fast you can overcome this problem. The big temptation will be to get more debt now that you paid much of it off. But if you are judicious and control your spending, you can master this problem and set yourself on a new course of savings and accumulation.
Thank you,

Michael Vidal, CFP®
 


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