Saving for retirement is drilled into our heads as it is an important aspect of financial planning, especially during our working years. But what happens when all of a sudden you have to repair your roof and charge $10,000 on your credit card. Everything seems fine paying the minimum payment every month until you realize it will take 20 years to pay off the balance due to the nearly (or sometimes higher than) 20% interest rate! All of a sudden that $10,000 roof will cost you tens of thousands more just in interest payments. What should you do? How can you pay this repair down faster? I would personally consider suspending my retirement savings until paying down this new debt.
Although this topic is tough, debt management is an important discussion that I have with many of my clients. Unfortunately, due to various circumstances (unemployment, high expenses, or various other reasons), many people find themselves thousands of dollars in debt, often on high interest credit cards. As the debt piles up, it often seems too hard to dig out. I would like to discuss some strategies that will help you dig out of debt quicker, or avoid it all together. Keep in mind that not all debt is a bad thing. For example, if you properly manage your mortgage, student loans, and car loan, you can build credit while still paying off your bills.
Pay More Than the Minimum Payment
If you find yourself under a mountain of crippling debt, it is important to work on paying this debt down as soon as possible. Paying more than the minimum payment each month can save you years of headaches and thousands of dollars in interest payments! My main suggestions for paying down debt quicker is to suspend retirement plan contributions until the debt is paid off, and take the time to make a budget that will allow you to save for an emergency while still living comfortably.
Think about it this way, paying off the balance on a credit card with an interest rate of 20% is like a 20% return on your money! You will be hard pressed to find consistent 20% returns in any form of investment. Also, keep in mind that sticking to a comfortable budget (you should not be driving a BMW and living in a $1,000,000 home when you make $15 an hour) will allow you to save for an emergency!
Avoid Unnecessary Debt Altogether
This leads me to discussing avoiding debt all together. As I mentioned earlier, not all debt is a negative thing. However, debt that stems from an emergency that will then cost you 20% in interest, can derail your entire financial plan. Your best bet is to avoid this type of debt as much as possible.
This can be done by setting up a monthly budget that will allow you to live comfortably while building up an emergency fund of 6 months of expenses (this does not need to be done all at once). Often times, clients of mine will try to keep up with their neighbors with fancy cars and bigger homes. Keep in mind that these neighbors will not help pay your bills, and in the end, nothing positive will come of you impressing them! Work on saving!
Staying out of debt is not an easy feat, especially if you find yourself in an emergency situation. However, if you actively stick to your budget and build up your savings, you will be well on your way to financial freedom!