You can get out of debt and have the credit card companies loving you and hating you at the same time. It’s true, credit card companies will love you because you buy stuff with your credit card but they’ll hate you because you constantly pay off your balance before it accrues interest. Before you can get to that point though, you need to make sure you’re out of debt. Oh, is that all? No problem!
Credit Card Debt
According to IndexCreditCards.com the average credit card debt at the end of 2011 was around $3,400 per adult and around $7,000 per household. Yikes! Some think it’s high, but I’m actually surprised it’s not higher… it is down from the previous year.
Student Loan Debt
America’s outstanding student loan debt has now topped $1 trillion, which is an average of $25,000 per adult. Uh oh, and we thought credit card debt was bad! Maybe everyone is just waiting around hoping that their student loan debt will be forgiven?
Stop Paying the Minimum Amount
I know that not everyone can afford to just pay more than the minimum amount due on their credit cards or loans. Maybe it’s worth taking another look at your income and expenses though and seeing where you stand. Do you have a little extra money that could go towards your credit card balance or your student loans? If so, that’s where it should go. Every dollar that you can pay more than the minimum payment helps by reducing the amount of time it will take you to pay off your debt and reducing the amount of interest you will pay.
I’ve been very frugal over the years, but I’ve managed to never pay interest on a credit card balance. I’ve paid the minimum on credit card balances, but only because I found opportunities where I could transfer balances to credit cards with 0% interest for a select period of time (usually 12-18 months). These cards are great if you know you can pay off a balance in that amount of time. The key for me is only buying things that I know I can pay off at the end of the month. If I don’t think I can pay it off, then I don’t buy it. The Rolling Stones sang it best… You can’t always get what you want.
As for student loans, it’s nearly impossible to not pay interest on them. So, I definitely paid interest, but I never paid the minimum amount on my loans, which is how I paid off my original $20K in less than 3 years. Below I’ll get into the numbers and walk through some examples that show exactly why it pays to pay more than the minimum.
The Numbers: Credit Cards
Let’s look at credit card interest, which on average is around 15% right now. I don’t even think people realize how much credit cards kill them when it comes to paying the minimum amount. Here’s an example I made up that will shed a little light on the situation:
- My Principal Balance: $1,000
- My Interest Rate: 15%
- My Minimum Payment: $30 (3% of remaining balance)
- I decide to pay the minimum: $30
- My monthly interest: $12.50 (($1,000 x 15%) / 12)
- My actual repayment ends up being: $17.50 (my payment minus the interest)
- My remaining balance: $982.50 ($1,000 – $17.50)
These calculations are then done every month until the credit card debt is paid off. If I were to continue paying the minimum it would take me 83 months to pay off this balance. I would also pay $508 in interest, making my total payment $1,508 on the original $1,000.
Do you have a credit card balance? You can figure out how long it will take to pay it back by using this handy debt calculator on SuperiorDebtRelief.com.
The Numbers: Student Loans
The student loan interest rate right now is 6.8% for Stafford loans and 7.9% for PLUS loans. Need to know exactly what each of those means? Well, you can figure it all out at FinAid.org. It’s been a while, but I believe with student loans you set a loan term for how long it will take you to repay the loan and then you can also have a minimum payment. Again, here is another example… this time of a student loan repayment schedule (based on loan term and not minimum payment):
- Loan Balance: $20,000
- Interest Rate: 6.8%
- Loan Term: 10 years
- Monthly Loan payment: $230.16
- Number of Payments: 120
After ten years I would end up paying close to $7,620 in interest and a total of $27,620 on the original $20,000 that I borrowed. This of course is a very basic example and there are a bunch of other factors when it comes to student loans. FinAid.org can help you understand all of that though and there is an entire page of calculators that can help you figure out the best and easiest way to pay off your student loans. Once you calculate your repayment there is also additional information at the bottom of the page that will tell you how you can cut years off your repayment and pay less interest by paying a little extra each month.
Pay Off Your Debt, Then Save!
A lot of people want to save money, which is a good thing! It’s hard to do though when you’re trying to pay off debt at the same time, and it’s just holding you back from your true saving potential. Unless you have some savings account with a super high interest rate (most likely not) or you’re making a ton of money investing your savings, then your credit card interest or student loan interest is probably cancelling out any money you’re making on your savings. You would be better off taking any money that you’re planning on saving and paying off your debt first.
Don’t get me wrong, I’m not saying that you shouldn’t have a nice chunk of savings set aside for a rainy day, but put a cap on it when you feel safe and use any additional money to pay off debt. When I was younger (just out of college) my rainy day fund was around $1,000 and any additional money I made usually went to my student loans.
Getting all of your high interest debt out of the way will not only save you money, but it will make you feel better. It may take years, but it will be worth it in the end. After it’s all paid off you can really start saving! Good luck!