Last week we looked at different types of debt management. While debt management can help you get out of debt, you can speed up the process by using a teachnique called aggressive debt reduction. This is more than just managing your debt until you can afford to pay it off, or until it finally trickles down to nothing. This is a tactic that can help you take control of your debt situation now, by using sound personal finance principles and discipline in your money management decisions.
Organizing your debts
The first thing you need to do is to organize your debts into a list. This list should be ordered in one of two ways:
- Showing debts in order from highest interest rate to lowest interest rate
- Showing debts in order from lowest outstanding balance to highest outstanding balance
Personally, I prefer to order the list by outstanding balance. There is such a feeling of accomplishment that comes with paying off a debt, and at the beginning it is very encouraging to pay off a debt or two very quickly. It can help you feel good about continuing the program.
Figuring out how much extra you can put toward debt reduction
Next, you need to decide how much you will pay toward debt reduction each month. This should be a set amount that is built into your monthly budget. One way you can figure it is to go through your expenses and figure out how much is “waste.” About 10%-15% of your monthly income is likely to be waste. Waste is things that you don’t need, and didn’t particularly want. It’s the $5.50 movie in the bargain bin that you thought you “might as well have” or the $3.19 you spend for a latte every day at lunch. All of these things add up to quite a bit. In some cases, it can add up to a couple hundred dollars! Go through your spending and figure out what you can cut out to create a “debt reduction payment.” You might be surprised how much you can put toward debt reduction every month.
Making your monthly debt reduction payment
Pay all of the minimum payments on all of your debts each month, as usual. You make your debt reduction payment in addition to the minimum payment of the first debt on your list. If you are putting $80 per month toward debt reduction, that amount is added to the $20 minimum payment you might be paying on the first debt on your list, so your total payment is $100. After you pay off the first debt on your list, you apply the entire amount to your second debt. So, you take the $100 and add it to the $35 minimum payment you might have for the second debt on your list. So you are paying $135 toward the second debt.
Applying it to the rest of your debts
You can see how the amount that goes to debt reduction increases each month without actually causing you to pay more than your bills and your original debt reduction payment. You should not limit yourself to a small amount; if you can feasibly put $200 or $300 toward your debt reduction, you should. The faster you get out of debt, the faster you can begin building wealth. And who knows — if you are already used to setting aside $400 per month by the time you finish paying off your last debt, you can put it toward a savings account or an investment account.