debt

Debt traps have many consequences, including credit score, financial, social, and psychological effects. An expensive loan doesn’t necessarily lead to a debt trap. You can repay a huge loan without much hassle if your income is sufficient. Failure to pay EMIs (equated monthly installments) on time, interest on the outstanding loan keeps rising and may involve late repayment penalties, leading to your overall debt inflating.

In such a case, you may take fresh loans to repay the existing ones, getting you trapped in debt. However, you can avoid this situation with debt management and repayment strategies. This article outlines seven smart ways to get out of the debt trap.

1. Determine the causes of your debt trap

Identifying why you’re in a debt trap is the first step to finding tips to get out. If your EMI exceeds half of your income and your fixed expenses are over 70% of your income, you’re slowly getting debt-trapped. Having many loans and exhausting your credit card limit are other signs you’re getting into a debt trap. If you can’t make monthly savings, it could be due to your fixed expenses, including debt. Once you identify the cause of your debt trap, make a plan and find ways to address that area.

2. Consider debt consolidation

Debt consolidation involves taking one loan to repay another or multiple existing loans/ debts. You can consolidate an old debt into a new one in various ways, including taking a credit card with a higher credit limit, a new personal loan, or a home equity loan to repay the smaller debts using that new loan. You can consolidate your debt using secured or unsecured loans. A secured loan is supported by an asset, such as your car or home, which acts as loan collateral. However, unsecured loans don’t need security and are harder to get. Also, their interest rates tend to be higher and qualifying amounts lower.

Debt consolidation can help you repay your debt sooner, primarily if it accrues less interest than the other individual debts would. It can also lower your monthly payment and improve your credit score, streamlining your finances. This means debt consolidation would be a perfect option if you want to get out of a title loan or any other loan.

3. Start budgeting

When trying to get out of a debt trap, strictly following a budget can help you attain your objectives sooner. Budgeting lets you understand where your earnings go every month, helping you spot spending patterns you need to change and areas to cut back. It also enables you to determine how much money you can safely direct to debt repayment. With a budget, you can build an emergency fund and ensure it remains intact as you clear your debts. This cushions you when unforeseen expenses arise, keeping you from getting into more debt.

With a budget, you can determine the extra amount to direct to your debt every month and set up autopay or automatic transfers. To create a budget to repay debt fast, assess your monthly income and list all your expenses, including variable and fixed. Group the expenses into necessities, debt payments/ savings, and non-essentials. This will help you allocate and adjust your spending accordingly.

4. Leverage the snowball debt repayment method

The debt snowball is a debt repayment strategy where you prioritize the smallest debts followed by the second smallest, and then the next in that order. You then continue the repayment process until your debts are fully repaid. This debt repayment method is simple to implement because you don’t need to compare APRs (annual percentage rates) for various obligations.

Clearing one debt at a time motivates you to pay off the rest. Since the snowball debt repayment technique prioritizes balances and not APRs, you may spend more on interest over time. Also, repaying one debt at a time means you’ll take longer to get out of debt.

5. Try the debt avalanche debt repayment technique

The debt avalanche is an accelerated debt payment technique where you allocate sufficient funds to make the minimum repayment on every debt source and channel the remaining repayment money to the debt whose interest rate is the highest. Once you fully repay the debt with the most interest, the extra repayment money goes to the loan with the second highest interest rate. This cycle continues until each debt is cleared.

The best part about the debt avalanche payment method is that it lowers the interest amount you part with in the long run. It also cuts the time you need to escape a debt trap, but only if you maintain repayment consistency, leading to less interest accumulating. To succeed with this debt repayment strategy, you must stay consistent.

6. Find ways to increase your income

Finding more ways to make money is among the best ways to get out of a debt trap sooner. Start by asking for a salary raise, and if this doesn’t work, look for a better-paying job. If your schedule allows it, find a part-time job to improve your income, especially if the first two options don’t materialize immediately.

Starting a side hustle, hosting a garage sale, and finding ways to slash your expenses and save more funds to pay off your debts. You may also consider earning from your hobbies, including cooking, writing, blogging, photography, gardening, music, DIY crafts, and more. Creating a passive income, such as stock market investing, rental properties, and earning royalties, can help you make more money.

7. Build an emergency fund

An emergency fund caters to sudden expenses, helping you cope with unemployment and keeping you from high-interest loans in unexpected situations. However, creating or maintaining this fund when in debt can be challenging. Obligations that help you pay for appreciating assets are good. While you should make a minimum repayment on your debts, prioritizing an emergency fund instead of directing extra money to good debts, such as mortgages, is more important.

However, you shouldn’t skip your monthly debt repayment to grow or build your emergency fund because this can lead to late fee charges, a drop in your credit score, your debt being sent to collections, and the seizing of your property.

Endnote

A debt trap can significantly impact your financial, social, and mental health. Nonetheless, using these tips can help you get out of the debt trap, leading to debt relief. 

Paying off debt is one of the best ways to achieve financial freedom. That’s because you gain control of your money, allowing you to save more for major milestones in life. However, paying off debt isn’t easy. Not only do you need to make timely payments, but you also decide which loan to clear first and find the best debt relief program to help you get out of debt faster.

Without proper planning, you’re likely to make mistakes, making it hard to get out of debt. However, knowing where to find help can go a long way in helping you clear your loans. For instance, if you’re struggling to meet your monthly payments, consider looking at consumer proposal pros and cons to determine if it can help reduce your debt to an amount you can realistically afford. Let’s look at some of the most common mistakes you’ll want to avoid when paying off debt:

1. Not Changing Your Spending Habits

One of the greatest mistakes you can make while trying to pay off your debts is not changing your spending habits. Bad spending habits, such as getting your credit card balances down and taking out another loan or hitting Starbucks daily, and you’ve already depleted your monthly entertainment budget, can make getting out of debt difficult.

If you want to clear your debts quickly, you must develop some self-control by making the right decisions when it comes to spending. Evaluating your spending habits and making the necessary lifestyle changes can allow you to put more money towards repaying your debts. Overspending can only get you deeper into debt, making it harder to get out of it. Before you spend money on anything, decide whether it’s a discretionary or necessary expense.

2. Not Budgeting

Clearing out your debts requires you to have a solid plan in place. Without a budget, you’re likely to overspend and end up without money to put towards your loan repayments. Creating a budget enables you to track your income and expenses, ensuring you cover essential expenses like food and housing and put aside money to pay down your debt.

A budget also gives you a better picture of whom and how much you owe and the repayment deadlines. This helps you get organized at the beginning of debt repayment. With a clear picture of your monthly expenditure and income, you can easily find ways to adjust your budget or trim your spending. This allows you to put more money towards paying the debt.

3. Paying Off Multiple Debts At Once

Paying off several debts at once can be costly and could significantly impact your financial stability, given you also must cover your monthly bills like utilities. While you may want to clear your debts as soon as possible, you should consider tackling the most expensive debts first. Start with paying down your high-interest loans like credit card debt, and then work your way down. Any windfalls, such as work bonuses or tax refunds, should be directed towards paying down bad debt. This way, you can reduce your total debt significantly, making it easier to meet your pay-off timeline.

Paying off debt isn’t only about reducing your credit card balances; it requires proper budgeting, prioritizing debts, changing spending habits, and building an emergency fund. Determine the amount you can put aside for debt repayment each month and then treat it as a fixed bill until the total debt is cleared. After clearing all your debt, you can direct that money toward saving for other goals.