Credit card debt can be overwhelming. Once you've spent more than you can pay off, your debt can balloon as interest charges rack up and deepen the hole you're in.
There are proven strategies that can help you pay off your debt by breaking the process down into approachable steps. Here are some of the best practices for reducing spending and developing a practical plan to pay off your credit card balances.
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Identify how you got into credit card debt
The most important step is to understand how you got into debt in the first place. Otherwise, you risk repeating the cycle, even after you pay off your current balances.
To avoid this situation, it's important to know how credit cards work. Credit comes in handy in many situations, but the convenience could cost you. The longer you carry a balance, the more you will pay in interest charges. Proper and smart credit card habits include making payments on time and paying off the full balance every month. In other words, only charge it if you can afford it.
Build a budget
There are plenty of reasons why you may be in over your head with credit cards. You may not be aware of how much you actually spend. Or you had an emergency, but no emergency fund to draw on, and paid with your card instead. Regardless of the reason, knowing how much money comes in -- and goes out -- is essential to taking control of your finances. Creating a budget to rein in spending and pay down your debt is crucial.
Plain and simple, credit card debt is the result of spending more than you can afford to pay back. A good budget could take some time to set up, but will ultimately act as a visual tracker of your financial status. To build a budget, create an income category by adding up all the money that comes in each month. Then categorize and add up all your expenses. The best budgeting apps do most of the heavy lifting.
Once you've set up a budget, ask yourself the following questions:
- Are my expenses more than my income? If you're spending more than you make, you have two options: cut back on your expenses or pick up extra hours at work (or a side hustle) to bump up your earnings.
- Am I setting aside any money towards an emergency fund? Growing a rainy day fund could help you avoid turning to credit cards in an emergency.
- Could I lower my spending? Take a look at your spending for ways to cut back, such as dining out less or canceling some subscriptions. Send the money you save towards paying off your credit cards faster.
- How much do I owe? Figure out the current balances on each of your credit cards to decide how much you owe and how long you'll need to pay them off.
- How much interest am I paying? Determine how much of your card payments go toward interest and take note of the cards with the highest interest rates.
Read more: Don't Budget the Wrong Way. Try My Easy Money Management Hack Instead
Choose a repayment strategy
Once you've made a budget and have an idea of how much credit card debt you need to pay off, it's time to start whittling away at it. There are a number of popular ways to approach debt payoff:
The avalanche method
If you have more than one credit card to pay off, the avalanche method saves you the most money, since you're paying off your most expensive debt first. Start by allocating the most money toward the credit card with the highest interest rate and make sure you're paying at least the minimum on all the other cards. Once you've paid the balance off on the highest-interest credit card, focus the funds on the next-highest-interest card and so on.
The snowball method
The opposite of the avalanche method is the snowball method. It uses momentum to keep your debt payment plan going. Pay off the smallest balance first and build on your success until you pay off the card with the highest balance. Hide your cards as you pay them off to avoid the temptation of spending again.
Pay more than the minimum
A general way to get out of credit card debt is to pay more than the minimum for your card each month. Otherwise, it could take years to get rid of a balance. For example, say you had a $5,000 balance on a credit card with a 20% APR and your monthly minimum payment was 2% of the balance. It would take more than 9 years to pay off the balance, and you'd end up paying more than $10,000.
In addition, carrying high balances could significantly affect your credit score since credit utilization weighs heavily. The sooner you pay down your balance, the faster you can rebuild your credit.
Balance transfer card
Certain credit cards offer enticing signup bonuses such as a low introductory rate for balance transfers. If you have good credit, you may qualify for a card offering balance transfers at 0% interest for 12 months or longer. Taking advantage of a balance transfer can buy you time to pay off a high balance. Just make sure you're able to pay the balance in full before the term ends, or you could get hit with interest for the remaining amount.
Read more: Is a Balance Transfer Worth It if You Can't Pay It Off in Time? This CFP's Take May Surprise You
Debt counseling program
Debt counselors can work with you on creating a repayment plan, as well as give you advice on how to manage your finances. Keep in mind that most debt counselors are fee-based. Depending on your financial situation, it may be better to manage your own debt repayment strategy and apply the fee you'd pay a counselor toward paying down your debt.
Hardship assistance programs
If you're struggling with the bills and experiencing financial hardship, contact the card issuer. Creditors typically have hardship assistance programs available that could waive certain fees, lower your interest rate or defer your payments for a few months.
What is debt consolidation and how does it work?
Debt consolidation is when a borrower takes out a new loan and then uses the loan proceeds to pay off their other individual debts. This can include everything from credit card balances, auto loans, student debt and other personal loans.
Most debt consolidation loans are fixed-rate installment loans, which means the interest rate never changes and you make one predictable payment every month. But it is important to keep in mind that a debt consolidation loan does not simply erase your debt, and you may end up paying more in the end if you can't manage to keep up with the monthly payments.
Debt consolidation loan
If you're juggling several credit cards, the best plan may be to take out a personal loan for the total you owe on all credit cards. You're essentially consolidating all your debt into one loan to save considerably on interest. So if you have three credit cards with different interest rates and minimum payments, you could use a debt consolidation loan to pay off those cards -- leaving you with just one monthly payment to manage instead of three.
The average credit card interest rate is over 20%, so be sure to compare your current APR with an offer for a debt consolidation loan. Your credit score could affect your interest rate -- and the chances of getting approved for a loan.
Debt settlement or bankruptcy
Debt settlement and bankruptcy are two additional ways to get out of credit card debt. The trouble is, they will likely affect your credit score for up to seven years. The legal fees associated with bankruptcy can also be pricey. Consider these options as a last resort.
Review your finances regularly and set goals
Once you're out of debt or on your way, it's important to establish healthy financial habits to keep you from slipping. Sticking to your budget will be vital. You may want to do an annual review of your spending and make budget adjustments. In addition, prepare for unexpected expenses by putting money into an emergency savings account. Lastly, set goals and stick to them. Saving a down payment for a house or establishing a retirement fund is a great way to keep your eye on the prize and your spending in check.
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