Being in debt is the last thing you want. However, life is unpredictable, and you don’t always have control over your financial health. Business failures, unreasonable expenditures, or medical emergencies can land you in debt.
Personal loans represented more than a quarter of the total bank credit in February 2020 – roughly 28%, as per the Reserve Bank of India (RBI).
While the situation can give you sleepless nights and shoot your anxiety through the roof, you don’t have to lose hope. No matter how much stress you might be feeling, you can stay optimistic and manage your loans wisely to become debt-free.
So relax, get your pen and paper, set a timeline, and make a priority list to manage your finances. You can follow the below-mentioned guidelines to formulate a strategy to become debt-free.
1. Understand Your Loans
Do you know the outstanding amount on your loan?
Have you been paying your monthly installments regularly without missing the last dates?
Do you understand the interest rate clearly?
If the answer to any of these questions is a no, you may want to open your online loan account and make a note of all the crucial details. It can become challenging to track the details when you have multiple loans.
If you find it overwhelming, you may connect with your bank manager for more information.
Apart from this, try to understand the minimum amount that you need to pay to each of these loans. It will help you in organizing your debt and also making a strategy to repay your loans.
While you are at it, do not forget to pay your credit card bills: their interest rates are higher than most loans. If you miss paying your bills on time, your debt may inflate and land you in deeper trouble.
2. Prepare a Monthly Budget
Do you have a monthly budget for your expenses? If you don’t, there are chances that you don’t have the desirable control over your finances. With the right budget, you can not only keep a check on your spending but also ensure that you never land yourself in debt again.
Don’t worry if spreadsheets are not your comfort zone. There are several user-friendly apps that you can use to track your spending. Simply download them on your smartphone and update them on the go.
The best way is to divide your expenses into different buckets of expenses like grocery, fuel, food, and entertainment. Next, identify a suitable amount that you will be giving to each bucket. For this purpose, you can read your previous months’ account summary and arrive at reasonable figures.
When paying your debt is your priority, it goes without saying that you will also need to create a tab for loans. Ideally, you need to put money into it first, and then towards the rest of your expenses.
Are you not too excited about budgeting? Well, think of it this way. It is temporary, and you can get back the control over your money after your loans have been paid.
Or better still, you may get used to budgeting. It is the best way to ensure that you live a financially independent life.
3. Focus on Your Debt With the Highest Interest Rate
It may seem daunting to even think about your highest interest rate at this point when you are struggling with your financials.
However, do you know that your highest interest rate is raising your overall liability? When you pay your monthly installment, a significant amount goes towards your interest and not your principal.
It is the reason why experts advise you to organize your loans in the decreasing order of your debt. Start by clearing the first loan and then move on to the others in that order. It will help you in saving money in the long run.
The ideal way is to pay a little more in the first loan account in your list and the minimum payable amount in the list. You can set auto-payments to ensure that you don’t miss your payments.
4. Prioritize Your Loan With the Lowest Outstanding Amount
When you are in a financial crisis, you may feel the pressure bogging you down. If you are feeling too low, the method given above may not be the best option for you. Although it will save you money, it will take time to show results.
Another option that can show immediate results is to clear your loan with the lowest outstanding amount first. After that, you can move on to the next debt on your list. As the items will get ticked off your list, you will feel motivated to take on other challenges.
However, in this process, do not forget your other loans. Keep paying their minimum installments to avoid a bigger cloud of debt.
5. Consider Debt Consolidation
Do you have a busy schedule, and is it becoming challenging to track multiple loans? Do you think the cumulative interest rates on your various loans is raising your overall liability? If yes, you may consider debt consolidation.
It is a method in which you take one single loan to pay off your other loans. However, before you make the decision, it is advisable to consider a few things.
Firstly, if you have been irregular with your monthly installments, chances are your credit score has plunged. In that case, banks may not be willing to offer another loan to you.
Even if they do, it could be a secured loan and require you to pledge something. For an unsecured loan, the interest rate may not be favorable.
Lastly, it is equally essential to examine the term of the loan. A lengthier loan may mean more long-term liability.
In the end, a bit of soul searching can help you choose what your personality demands. You may as well go ahead with debt consolidation if you want peace of mind. However, if you are uncomfortable with the increased liability that the new loan can bring, you are better off without it.
6. Target Your Loan With the Highest Outstanding Balance
While this is an approach that is rarely taken, but different people respond to different strategies. If you feel that clearing your biggest chunk of debt is going to give you more peace of mind, you may prioritize it.
However, in this process, you may not be clearing your most expensive debt.
7. Pay Extra Money Towards Debt
Are you awaiting your big bonus that usually comes in the yearend? Do you have plans to splurge it on your vacation or buy a luxury gift for yourself? Well, we have some not-so-exciting news for you.
If you are struggling with your financial woes right now, it is advisable to put every extra penny towards your loan repayments. Of course, you can pamper yourself every once in a while, but repaying your loans should take priority at the moment.
If possible, you may consider freelancing to make some extra income. Every small amount will go a long way and help you emerge faster from this financial mess.
8. Create a Contingency Fund
Emergencies rarely knock on your door with a warning. While you can’t avoid them, you can prepare yourself to manage them on your own. One of the best ways to do this by creating a contingency fund.
When you know you have the money to sail through your tough times independently, you will be in a better place mentally. If the experts’ opinions are anything to go by, you should aim for at least three to six months of your salary in your emergency fund.
9. Avoid More Credit
This whole exercise of repaying your debt is going to be futile if you add more loans to your portfolio. Try to avoid using your credit cards only because they make it easier to make that tempting purchase. Switch to using cash or your debit cards.
When you pay in cash, you spend what you have. Secondly, you also understand how much money you have in your account. This information helps in making wise money decisions.
Being in debt can be stressful. However, it is also a time that can teach you crucial life lessons.
Try to convince yourself that it is a temporary situation and all be good in no time. You may use the tips shared above to formulate your strategy and use your resources in fighting this challenging time.