Getting Out of Credit Card Debt
“Credit cards are evil.” “Don’t use credit cards.” These are but a few of the critiques that I’ve heard about credit cards recently. I don’t think credit cards are evil, but I understand why people think that credit cards are terrible. Credit card interest rates typically range from 7% to 36%, and the average rate is about 15%. I don’t think it’s a stretch to say that credit card interest rates would qualify as usury (excessive interest on loans that should probably be illegal). Given that the average credit card balance in the US is more than $7,000, that means that the average household is probably paying about $1,500 in interest charges to credit card companies each year. Put more simply, you would pay up to $360 in interest in one year for running a credit card balance on a $1,000 flat screen TV.
The first rule of using credit cards should be to never run a balance and pay off any charges at the end of each monthly cycle. I’m planning to write another blog post soon about how to effectively use credit cards, but for now let’s call that the supreme rule.
Fixing a credit card emergency
What about if you’re already in the unfortunate situation of having a very large credit card balance, let’s say $10,000? This means you are paying about $1,500 of your hard-earned money each year to the credit card companies of your choice. If you have a very high interest rate, you could be paying as much as $3,600 in interest to your card company. These astronomical interest payments make it hard to pay off the principle, and many people just cycle for years paying the minimum payments, which is pretty much just paying the the interest. To be completely clear, this scenario is DESPERATE, and it is a personal financial CRISIS!
As the saying goes, desperate times call for desperate measures. The first, and hopefully obvious step, is to stop accumulating any additional principal on the credit cards. Given the existing problem, do not charge any additional money on any cards. Instead, use either cash or a debit card to pay for any necessities. Second, you should ruthlessly cut any expenditures that are not necessities. Groceries, rent/mortgage, gas, car insurance, and any car payment are necessities. Clothing, electronics, personal services (nails, hair cuts/colors besides the basics), vacations, going out to eat or drink, etc. are not necessities. These should all be cut immediately until you have paid off your entire credit card balance (as in $0). Hopefully the money you would have spent on these discretionary purchases each month is enough to start paying off some of your principle, but please don’t stop there.
Cutting Major Expenses
Given the seriousness of your debt emergency, you should seriously consider cutting more significant expenses. These steps are somewhat more dramatic, and your situation may vary, but here is a list of possible actions you can take to free up money each month to pay off your cards:
1) Downsize your car. If your car is worth more than about $10,000 and your car’s value is worth more on kelly blue book than you owe on it, consider selling your car, buying a hatchback or other economical car, and paying off any car loan. If you make money in the deal, use those proceeds to pay off the credit card debt. If not, the lack of a monthly car payment, or the difference between the higher payment and your new low payment can be applied monthly to paying off your credit card principle. If you live in a walkable neighborhood and can walk or take transit to work, you may want to sell your car outright and not buy a replacement.
2) Cut housing costs. Consider moving to a more affordable apartment. This could be a smaller apartment, or one in a less costly neighborhood. If you own a home, this recommendation still applies. You could sell your house and move into an apartment. While there are transfer costs associated with all these changes, it may be that you can minimize these costs and pay off your entire debt load. If you live in an apartment or house with an extra bedroom, consider looking for a room mate or boarder. You could also look for a shared housing situation, or even consider moving in with parents or another relative for a period of time.
3) Increase income. Given this debt emergency, consider how you can increase your income. Potential ideas would be to pick up voluntary overtime at work, or look for freelance gigs on craigslist or taskrabbit. There are plenty of opportunities around to pick up extra work, including on the weekends (e.g., catering, yard work, painting, etc.). While I’m not a proponent of working too much, this is an emergency and calls for extreme measures.
Moving Beyond Debt
The steps outlined above may seem radical at first, but they aren’t all that unusual. You may find that living in an apartment is enjoyable – easy to clean, more affordable, and no exterior maintenance. Likewise, you may feel liberated from the high cost of driving an expensive car and worrying about scratches and damage. Finally, learning to cook at home and having friends over for a few beers can be a great time. Even after you’re out of credit card debt, you might want to keep some of these new-found habits. If you do, and you continue to have surplus money each month, this opens up a world of investing opportunities in mutual funds, stocks, bonds, and even real estate rentals. Keeping these habits in the long-term can open the doors to building wealth as you leave your debtor status behind.
Do you have any other suggestions for cutting monthly expenses to get out of debt? Please leave them in the comments below.