One of the things I love about my M$M Facebook Community is hearing from people who have learned how to pay off debt. Just this month, we’ve had members celebrate paying off $250,000 in 3.5 years, $44,000 in 14 months, and $300,000 in 10 years.
Those are insane victories! Having paid off $40,000 of student loans in 18 months myself, I know these payoffs aren’t easy.
You have to want that debt-free life so badly that you’re willing to live in a 10×10 room in your in-law’s house… been there. And, more than anything, you have to be willing to watch your peers pass you by so that you can get ahead.
Despite the sacrifices along the way, the rewards are huge, and with the steps, I’m outlining for you today, you’ll learn how to pay off debt quickly and effectively.
How to pay off debt: A step-by-step plan
Step 1: Stop thinking that living with debt is okay for you
Deciding to destroy your debt means you have to change the way you think about debt. We’ve all read the statistics that normalize debt, but living with it does not have to be a reality for you.
You may have used debt to help you get through college, put a roof over your head, get you through an emergency, etc., but you don’t have to live with this debt for the rest of your life. It may take years to pay off your debt, but I believe that you can make it happen.
Think about what debt-free life means for you. Does it mean early retirement? Does it mean traveling more? Does it mean just living with a little less stress?
Take that dream and let it fire you up. Get so mad at your debt that you can’t even stand to see those balances anymore. Get so freaking angry that all you want to do is set your debt on fire and burn it down.
Learning to pay off debt might legitimately be one of the hardest things that you’ve ever done, but I have a few tips to help you with your debt payoff plan:
- Have some money set aside in an emergency fund. Even if you have just $1,000 in an emergency fund, this will help you when you might be tempted to rely on a credit card to cover an unexpected expense.
- Track your spending and create a budget. This will help you see when you need to cut expenses or find ways to earn more. You can use personal finance apps, spreadsheets, budget worksheets, and more.
- Reduce your current expenses. Cut as much unnecessary spending as possible, like paying for cable, going out to eat, etc. That money is now for your debt.
- Increase your income. To really boost your debt payoff, you may need to increase your income with a side hustle.
- Put any bonus or extra money towards your debt. Your tax return goes to paying off your debt. Your work bonus goes to debt. I know it’s hard, but lump sums like this can make that payoff happen even faster.
- Celebrate your wins. Learning how to pay off debt can be exhausting and stressful, so when you hit a milestone, find a way to celebrate on the cheap. This could be a nice (but inexpensive) bottle of wine, a night out with friends, etc.
Step 2: Figure out how much debt you have
In February of 2019, U.S. consumer debt hit a record high − $4 trillion.
That number includes student loans, car loans, credit card debt, mortgages, etc. From this list, one thing is clear – most Americans have more than one type of debt.
Does this number not get you fired up about paying off your debt? Once you are ready to learn how to pay off the debt you need to face a hard reality and understand exactly how much debt you have from every possible source.
Gather your statements, whether that’s paper or online, and for each debt, learn the following things:
- Interest rate
- Minimum payment
- Due date
- Total amount due
Those numbers actually give you a lot of valuable and useful information. Your interest rate will show you which debts can cost you more in the long run. Your minimum payment tells you the bare minimum you need to find in your budget every month. The due date helps you make a calendar to stay on top of your debt. The total amount due is going to change and watching it drop is incredibly satisfying.
Getting to know your debt will help you pay off your debt, and I’ll show you how to pay off debt in the next step.
When I was paying off my student loans, I made a spreadsheet that told me the name of each loan and the numbers I just listed above. You can do that or use a personal finance app to track your debt payoff progress.
Step 3: Strategies for paying off your debt: Avalanche or Snowball
I know you know this already, but I have to say it: making the minimum payment every month on your debt isn’t going to be enough to pay down your debt quickly. Fortunately, there are a couple of great strategies for paying off your debt quickly.
You can use these next two strategies for paying off your debt on your student loans, credit cards, car payments, insurance bills, personal loans, etc.
This is an accelerated debt payoff plan where you target your debts with the highest interest rate first, which saves you money over the course of your pay off plan.
Here’s how the debt avalanche works:
- Make a list of your debts going from the highest interest rates to the lowest ones.
- Every month, make the minimum payment on each debt.
- Every month, allocate as much as possible towards your debt with the highest interest rate.
- Once you’ve paid off the debt with the highest interest rate, use those extra repayment funds to go towards the next highest interest-bearing debt.
- Repeat #4 until you are debt free.
The debt avalanche method takes a lot of discipline because you don’t see big wins in the beginning. The advantage of using a debt avalanche as one of the strategies for paying off your debt is that you are saving money by targeting your loans with the highest interest rates first.
This is another accelerated debt payoff strategy, but with the debt snowball, you target your loans with the smallest amounts first. If you’re familiar with Dave Ramsey, this is what he teaches because it focuses on behavior modification by rewarding you with some early wins.
Here’s how the debt snowball works:
- Make a list of your debts going from smallest amount to the largest amount.
- Every month, make the minimum payment on each debt.
- Every month, allocate as much as possible towards your smallest debt.
- Once you’ve paid off your smallest debt, use those extra repayment funds to put towards your next smallest debt.
- Repeat #4 until you are debt free.
The debt snowball is great for motivating you to pay off your debt, but you will end up spending more on interest than you would with the debt avalanche.
To best understand the impact of the debt snowball vs. debt avalanche as strategies for paying off your debt, you can enter the amount of your debts, interest rates, and minimum payments into a debt payoff calculator and see the differences in popular strategies for paying off your debt.
Some people start with a debt snowball and then move to the debt avalanche once they’ve paid off a few smaller loans and realize how great it feels to reduce some of their financial stress. It’s okay to switch midway through – both of these strategies for paying off your debt are going to be faster than just making the minimum payments.
More strategies for paying off your debt
The debt avalanche and debt snowball aren’t the only options for paying off your debt, but they are some of the safest and most effective strategies out there.
The other options I’m about to cover are much riskier because you’re essentially replacing one debt with another one.
Yes, some people can make these options work, but unless you address other issues that are causing your debt, like overspending on credit cards, these debt payoff options can be like using a bandaid when you really need stitches.
Using balance transfer cards
For credit card debt, balance transfer cards let you take one or more credit card balances and transfer them to a card with a 0% APR promotional period. The promotional period allows you to focus on lowering your principle, then saving you on interest charges. In a perfect world, you would be able to pay off your debt before the APR goes up.
You will need good to excellent credit to be eligible and a steady income stream. While this can save you money, you will have to become a responsible credit card user for this to be an effective, long-term strategy.
Home equity loan (HELOC)
Taking out a HELOC to pay off your debt (often used for credit card debt) is when you borrow money against your house and use that to pay off your debts. While the benefit is lower interest rates and not needing a great credit score, the downside is that your home is on the line if you fail to pay.
Debt consolidation or refinancing
Debt consolidation for credit cards or refinancing your student loans with a company like Credible can save you money by pooling all of your loans together into one amount that you borrow at a lower interest rate.
This is a good option for people who know they can make the minimum payment every month, but it won’t necessarily accelerate your debt payoff unless you also decide to allocate more money each month towards your debt.
For some people with massive amounts of debilitating debt, this is the last ditch effort before filing for bankruptcy. A debt settlement is when you use a third party to negotiate a settlement with your lenders that ideally have you paying less than the borrowed amount.
There are a ton of potential downsides to a debt settlement, like costing you more in the long run, hurting your credit score, and adding to your debt.
This is a pretty controversial debt payoff strategy because you are borrowing from your retirement. You can borrow up to $50,000 of a 401(k) that has a vested balance of at least $100,000 or 50% of the value, whichever is less. A 401(k) loan will need to be paid back in five years and can sometimes be done through payroll deductions.
There are some obvious downsides to borrowing from your retirement – losing gains that your investment might make during the borrowing period – so do your research before moving forward.
My final word on learning how to pay off debt
Whichever debt payoff strategy you use, you are making a step towards a better financial future. Both debt avalanche and debt snowball are proven strategies for paying off your debt that will accelerate your pay off.
The other strategies can work, but there is a considerable amount of risk involved with some of them that can make your current financial situation even worse if you aren’t careful.
The goal here is to live a better financial life, not fall into a deeper hole that is even more difficult to climb out of.