Financial Planning

The Ultimate Guide To Paying Off Your Debt

February 16, 2021

3 debt reduction strategies you can use to become debt-free.

Have you ever dreamt of what it might be like to live debt-free? I’ve got good news for you; I’m going to help you make that dream a reality.

It can be very easy (and often quite fun) to get into debt, but it can be a huge challenge to get yourself back out.

When it comes to knocking out debt, there is no overnight fix. But that doesn’t stop us from seeking the quickest and easiest way to restore our financially sound lifestyle.

Everyone pays off their debt differently. It’s a completely unique experience and what may be an incredibly effective method for your good friend, could be a disaster for you.

While being in debt can often be uncomfortable or embarrassing to talk about, know that you are not alone and there is support for you.

In fact, being in debt may be more common than you think.

Nearly two-thirds of working Australians are in non-mortgage debt1.

Carrying debt through life isn’t always a burden, so long as it serves a purpose, and you have the ability to pay them off. When debt does become a problem is when you are almost ready to retire or when you are paying large monthly payments with little to no benefit.

If you’re just starting to work out a debt management plan or have been trying to become debt-free but feel like you’re barely treading water, it can be difficult to know what the next step is.

What comes into play here is the very common idea that “knowledge is power” and tackling your debts is no exception…

The first step is to work out how much you owe.

Before you can begin working on paying your debt down, you need to know how much you actually owe. This can be a really confronting step to take but know that it is vital to becoming debt-free.

In a spreadsheet or list, write down all your debts with the outstanding balances, interest rates, and minimum monthly payments.

This may include:

– Mortgage
– Credit card debt
– Personal loans
– Car loan
– Student loan/HECS debt
– Even include things like AfterPay, ZipPay, etc.

Once you have everything out in the open, you can decide how you are going to best pay off your debts.

Decide on your debt reduction strategy:

The perfect debt reduction strategy for you will be one that suits your needs and personality.

1. Debt Snowball Method

The debt snowball reduction method is a way to secure your financial freedom fast.

It starts by thinking about paying off your debt like building a snowball.

The best way to build a snowball is to start with a small handful of snow and add snow bit by bit until it turns into a snowball that would win any snowball fight!

So, the debt snowball method suggests starting small as well: pay off your debts from smallest to largest. It involves throwing everything you have at your lowest balance until it is completely gone.
You obviously still need to pay your minimum repayments on the other loans but put everything else into your lowest debt!

When this first, smallest debt is paid off, you can take the amount you were paying on it and put it into your next smallest debt. You keep repeating until all your debts are gone; until you have “snowballed’’ all your debts.

This method is all about rewarding yourself for the small wins. It focuses on behavioural change rather than maths or money.

Basically, once you get rid of the smallest debt, the whole concept seems a little easier. Even the smallest amount of progress can be extremely satisfying, and you will feel like you are making progress.

You know you better than anyone else. Think this method might be for you?

Start planning for your debt-free life using this Debt Snowball Calculator.

2. Debt Avalanche Strategy

Want a strategy that focuses a little more on the money side of things? The debt avalanche strategy might be for you.

The debt avalanche debt reduction strategy involves paying off debts starting with the highest interest rate loan. When that is paid off, you turn to your debt with the next highest interest rate.

This strategy is all about minimising financial losses by paying less interest.

For this reason, it might be a quicker debt-reduction strategy than the debt snowball, however, progress can feel slow.

While the debt avalanche method reduces the interest paid, it does take discipline and commitment to pull off.

Who is the debt avalanche strategy for?

According to The Balance2, the debt avalanche might be a good fit if you:

• Want to minimize your total cost of borrowing
• Believe in the logic behind the strategy (paying as little interest as possible)
• Have the discipline to keep paying extra on a sizeable debt for an extended period—without the satisfaction of seeing it paid off quickly
• Don’t need positive reinforcement frequently (or early in the process)
• Are motivated by facts and figures

Want another option? Take a look at the debt tsunami strategy.

3. Debt Tsunami Strategy

Many people advise leaving your emotions out of the picture when trying to reduce your debt – after all, this may have been what got you in debt in the first place. However, the debt tsunami method suggests otherwise.

The idea behind this strategy is to pay off your debts in order of emotional impact.

For example, you may have a credit card loan of $10,000 at an interest rate of 10% but you may want to pay back your mum the $1000 you owe her for rent when you were struggling.

The debt tsunami strategy is all about prioritising debts that have the most psychological effects on you.

While there are cheaper ways to paying off your debt, this strategy can promote better mental health and a more enjoyable lifestyle.

However, if paying off your debt in the most cost-effective way is more important to you, you may like to consider other options.

It can be difficult to know what the right decisions are when you are in debt. If you are ready to become debt-free, you may like to seek financial advice to help you create your debt management plan.

Cambio Group’s experienced financial planning team can help you best manage your money and cash flow to help you get on top of your debt.

Ready to live life the way you deserve? Book a complimentary initial appointment with one of our experienced Financial Advisors today. Book here.

 

REFERENCES
1. https://www.savings.com.au/savings-accounts/nearly-two-thirds-of-australians-in-debt
2.https://www.thebalance.com/get-out-of-debt-with-debt-avalanche-4140758

Disclaimer: The information (including taxation) in this website does not consider your personal circumstances and is of a general nature only – unless otherwise stated. You should not act on the information provided without first obtaining professional advice specific to your circumstances.

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