In Debt? Time to sort it!
There are varying degrees of debt you can find yourself in, however how much money you owe is relative to you. Just because you owe €2000 and somebody else owes €102,000 doesn’t mean your €2000 isn’t causing you as much or more stress than the other persons €102000.
I have come across clients who lost sleep over the fact that they have left a couple of hundred euro on the credit card for a few weeks, believe me their stress levels were very real. On the flip side I have clients who owe millions and couldn’t care less, and it doesn’t phase them in the slightest.
Having said all that if you are in serious debt and you can’t see anyway out, it does feel like you are drowning, often times people don’t talk to anybody about it, which compounds the problem. You should in the first instance talk to somebody close to you or even your GP.
The next step is reaching out to a professional called a PIP (personal insolvency practitioner). This can often be the first step in sorting out your finances. They are qualified people who are regulated to provide advice and liaise with the banks on your behalf to negotiate a deal everybody can live with.
However, if you are able to afford your loan repayments but you just feel you are not making progress, you just wonder is there a better way of clearing down your debt or you want to put a recent pay rise to good use, then this article is for you. Here, I am going to outline two proven ways to sort your debt in the quickest and most efficient ways possible.
Let’s do this by way of example, let’s assume you have a whole bunch of loans. The first thing to do is to write them all down, include the balance outstanding, who the lender is, the rate, months remaining and the repayments. For example:
So if this was you, you have total debt of €234,148 broken down between a mortgage of €204,000 and “personal loans” of €30,148. In total you pay out €1584 per month.
Let’s imagine that you have an extra €100 per month to play with because of a pay rise of because you have cut back on other expenditure.
The Traditional Route
Most personal finance books you read will quite rightly tell you the best way to tackle this debt is to sort the debt in order of highest to lowest interest rate like below:
Once you have done this you start to chip away at the highest interest rate loan first with the full €100 per extra, so in our case above you would pay €295 per month off Credit Card 1 instead of the €195. This would cut the term on that credit card loan by 2 years and 4 months and save you €2,213 in interest.
You then take then start to tackle the next loan and so on until all the loans are clear.
This makes sense, tackling the highest interest rate loan first saves you a lot of money in interest. For example, in Ireland credit card interest rates are up to 21% with some providers. That means in simple terms if you have a credit card with €1000 on it for a year and you just serviced the interest you would pay €210 in interest.
Although it makes senses it is always the most successful way of tackling debt.
The Snowball Route
A route I think people should consider is the snowball route. With this instead of sorting your debt based on highest to lowest interest rate you sort it by loan amount. Put the lowest loan amount first and tackle that…
In our case you would go after credit card 2 with a balance of €600. Instead of paying €30 per month you pay €129 per month. You will have the balanced cleared in 5 months.
You then take the €129 and snowball it up with the €105 you are already paying on the credit union loan and start to attack that. When you have the credit union sorted you snowball the €100 + €29 + €105 with the €195 you are paying to credit card 1 and start tackling that.
There is no doubt this will cost you more in interest because you owe the 21% debt on credit card 1 for longer but I believe you have a much better chance of success. This is because you get little rewards along the way, after 5 months you have a full loan cleared. You will feel good and you are much more likely to continue.
Outright success and becoming debt free is the goal any plan that keeps you motivated towards that goal is a good thing. The fear I have with the traditional route is, in this example, it will be 3.5 year before you get your first taste of success, that’s a long time when you’re in debt.