DEBT REDUCTION PLAN | PRE DEFAULT
What do I mean be Pre-Default?
This is the stage where you have not missed a payment yet; you have an income to pay your current debts, but it is too much, and you need to reduce these payments to get back a normal life and go back to SAVING.
STEP 1 | OVERALL BEHAVIORAL COMMITMENT
What comes next only should be considered if you know that you can make a behavioral change.
What do you mean by behavioral change?
Put simply it would look like this:
- Do not get into more debt
- Transfer the debt to 0% interest credit cards and NOT using the now open cards to continue getting into debt
- Making higher payments on the debt with the most significant balance (assuming success on getting all cards to 0%)
- If you are not able to get 0%, then payments to the highest interest rate card should be first
I usually would recommend keeping the cards open to improve your credit history, BUT not if you think you will use them again.
If you think you will be tempted to use them again, cut up your cards, and keep the accounts open.
If you think that it is not enough to stop using the credit source, they MUST be closed.
It is important to clarify where things actually sit and the mindset behind what will happen if you do free up the current credit cards.
Now let’s dig into this.
STRATEGICALLY PLAYING DEFENSE:
STEP 2 | DO NOT GET INTO MORE DEBT:
Your goal is to not make the current situation worse. Dealing with debt is already hard enough, so there is no need to make it harder than it has to be. This is where you have to be very honest with yourself about your financial discipline. If you take action to reduce your debt, but you think you will be tempted to spend more than try keeping the credit line open but CUTTING UP your cards.
This is a win/win. The credit line still adds to your credit history to benefit you, but you will not be able to spend any more on the lack of a physical card to swipe. Remember, LONG credit history is essential and beneficial for you in the long run.
OK, NOW IT IS TIME TO PAY OFFENSE:
STEP 3 | MAKE A REAL PLAN:
This is an area that you can win in, but it takes time and patience. It is impossible to keep everything in your head; you must have a written plan.
The writing does several IMPORTANT things for you.
- It makes the situation far less scary when you are done
- It allows you to quickly see what the first thing you need to address is
- It will enable you to track the progress of something that will span over a more extended period that would be very challenging when dealing with normal life to remember in your head
- You are not subconsciously thinking about where you are at with it, what needs to be done next, etc. which will drain your energy if unchecked
I have come up with the following simple steps to guide you through the process
Recommended Action Steps:
- Create an excel spreadsheet
- List all the debt you have
- List the payment due dates
- Login to your accounts or look at your statements and determine the current interest rates and load them into your spreadsheet
- Highlight the highest INTEREST RATE credit cards
- These are the ones you address and plan for first
STEP 4 | TAKE THE HIGHEST INTEREST RATE AND INCREASE PAYMENTS
Here what you are doing is attacking the worst offender first. That said, the worst offender is not the highest BALANCE, but the highest INTEREST RATE.
Take the following examples:
- Credit card #1 that has a $27,000 balance and a 17.77% interest rate
- Credit card #2 that has a $4,400 balance and a 26.99% interest rate
Credit card #2 is the most dangerous and needs to be addressed before credit card #1.
So in this scenario, after the minimum payment is made on both, the increased monthly payment should go toward credit card #2 until it is paid off.
This scenario you do not need permission for. You do not need to call into the credit card companies and negotiate. There is no extra time for you involved.
This can also be used in combination with the next step in the process.
STEP 5 | TAKE ADVANTAGE OF 0% BALANCE TRANSFER CARDS
A balance transfer card allows you to move a higher credit card balance to another lower interest rate type of card. Usually, these are introductory rates, but many of these last from 12 to 21 months, giving you the reprieve you need to aggressively attack the debt during that time.
This is a good play if you are committed to paying off your debt, and you will not use your old cards. Again, cut them up, so the temptation is irrelevant.
Do not do this if the term on 0% is any less than 6 months as you will just be trading one problem for another in a brief period of time.
These cards usually require that you have ok credit, which is why this is mentioned as a PRE-DEFAULT phase of reducing debt.
STEP 6 | LOOK FOR WAYS TO DECREASE EXPENSES:
I am a BIG fan of decreasing expenses. It is the small things that matter a GREAT deal, in the long run that you can adjust your lifestyle and live without.
If you go to Starbucks, get a latte and tip, let’s say you spend $7. That is $35 a week and $140 a month. That is $1,680 a year that could go toward paying off this debt and getting it off your back.
I get it, Some people can’t live without their daily coffee out, then think of something else that is less important to you where you can save and put that money toward your freedom.
That is one example of many that you can think of in your own life. If you take 3-5 of those and put them toward a less stressful debt-free life, it could be an absolute game-changer.
STEP 7 | LOOK FOR WAYS TO INCREASE INCOME:
If you have exhausted ways to save on money, another avenue is to find ways to give yourself a raise. Take the extra money you may be able to earn and put that toward your debt.
Nowadays, there are so many opportunities to do something like this that did not exist before.
Everything from taking things that you will never use and selling them, to side hustles, to ‘inbox dollars' type platforms.
STEP 8 | NEGOTIATE WITH YOUR CREDITORS FOR A LOWER INTEREST RATE
This is an option IF you are not able to do balance transfers to 0% cards.
This option will take up more time and energy with phone calls, negotiations, and tracking. This is a process of going down the list of what is best for you with the LEAST amount of effort.
Remember, these interest rates with the credit card companies are NOT set in stone. When you get into trouble, they have placed in the terms and conditions they can raise your rates.
On the flip side, they, for sure, do not want you to NOT pay vs. giving you a lower interest rate. It is all in how the negotiations are handled.
The point is that it is possible to call in, explain the situation calmly and begin negotiating for a lower interest rate.
The downside to this strategy is if you are not late on payments yet, they will be more reluctant to give reductions. This will come into play in a much bigger way if you are in a POST-DEFAULT situation.
Assuming that we are in a PRE-DEFAULT situation at this point, exhaust the other options before moving into this territory.
Sometimes it is easy in stressful situations to get overwhelmed. It is helpful to break a huge project into bite-size pieces. In this capacity, everything is much more manageable to deal with and far less energy-consuming.