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Being in debt can feel suffocating. You might think you'll never get ahead, and the stress of making regular payments can feel constant. Even with a payment plan in place to help you systematically reduce your debt, the process can be slow, and it's easy to make missteps. Be mindful of these typical mistakes as you work towards becoming debt-free, helping you reach your financial goals sooner.
Neglecting consolidation options
If you're juggling multiple high-interest debts like credit cards or personal loans, consolidating them into a single, lower-interest debt could save you money. Explore choices like balance transfer credit cards, debt consolidation loans, or debt management plans. The reduced interest rate will allow you to pay off your debt more quickly and minimize the total interest paid.
Keep in mind that if you keep charging on your credit cards after consolidating, it will only worsen your financial situation. Before moving forward with consolidation, make sure you have a plan to change your spending habits and get organized to pay off your debts first.
Overlooking interest rates
I usually suggest focusing on paying off your highest interest rate debts first; debts with lower rates can be addressed later. Instead of dividing payments equally among all debts, prioritize paying as much as you can towards the highest APR debt while making minimum payments on the rest. For example, paying off a 20% APR credit card should be your priority over a 3% student loan.
Create a list of all your debts and their respective interest rates. Include credit cards, personal loans, medical bills, etc. Arrange the debts from the highest interest rate to the lowest. Tackling high-interest debt will save you the most money on interest charges.
Closing credit cards once they're paid off
It might be tempting to close credit card accounts once they're paid off, but this can actually harm your credit utilization ratio and lower your credit score. Avoid rushing to close your credit cards, especially if they're among your oldest accounts. Keeping them open and occasionally using them can help maintain and even improve your credit history. Just make sure to pay off the balance in full each month to avoid any new interest. A better approach is to leave accounts open but refrain from using them. Having available credit can positively impact your credit profile.
Falling prey to lifestyle creep
Lifestyle creep is when you gradually start spending more as your income increases, adjusting to a more luxurious lifestyle over time. As your debts decrease and your income grows, it’s easy to succumb to the temptation to spend more. To avoid "lifestyle creep," continue to live frugally. Rather than increasing your spending, use any additional income to pay down more debt or boost your savings.
The journey to becoming debt-free can be lengthy, but by staying mindful of these common mistakes, you can reach your financial goals sooner. Here’s our guide to getting organized to pull yourself out of debt. If you need professional help with reviewing and managing your debts, here’s our guide to hiring a financial advisor who won’t rip you off.
