When you’re overwhelmed by debt, it’s often difficult to look beyond the “minimum payment due” box on your bills. Constantly racing against disconnection dates, juggling payments, and fielding debt collection calls leaves little time or energy for long-term planning. Often, the loudest debt collector or the one with the most intimidating threat gets whatever funds you have on hand, re-starting the scramble to stay ahead of due dates and deadlines.
Unfortunately, paying bills in crisis mode can create a cycle of last-minute and past-due payments that goes on indefinitely while balances hold steady—or even increase. Moving toward a point where you don’t have to count pennies and constantly check due dates requires strategy. And formulating an effective strategy requires understanding just exactly how much your debt is costing you and what changes will have the most impact on your long-term financial prospects.
Identifying Your Most Expensive Debts
Your most expensive debts are those with the highest interest rates, the most frequently compounded interest. If you’re running behind, late fees also pay a role in the cost of debt.
For most people, credit cards top the list when it comes to ongoing, expensive debt. Certain types of debt, such as payday loans, carry much higher interest rates. But, those debts are typically smaller and shorter-term. The longer-term culprits are most often credit cards, subprime car loans, and high-interest personal loans.
The (Relatively) Small Cost of Saving Big
If you’re already worried about money, you probably don’t want to think about how much your high-interest debt is costing you. Averting your eyes is a recipe for continued struggles, so consider this example:
Credit Card Debt: $2,500
Interest Rate: 16%
Minimum Payment (assuming common formula of interest +1%): $58.33
Assuming you pay exactly the minimum payment on this account and make each payment on time to avoid late fees, it will take approximately 16 years and 8 months to pay off that $2,500. Over that time, you’ll pay about $2,792.86 in interest—more than the actual debt!
Of course, most people realize that credit card debt is expensive and paying only the minimum payment isn’t the best approach. But, if you’re already struggling to pay your bills, larger payments may seem out of reach. This is where most people make the serious mistake of not realizing how much difference a very small amount above the minimum payment can make.
Imagine that you pay that $58.33 minimum payment. But, next month, when your balance has dropped ever so slightly, and your minimum payment is perhaps $57, you still pay $58.33…and continue to do so as your minimum payment continues to drop little by little. The natural—and common—assumption is that such a small amount won’t make much difference.
In fact, making fixed payments of $58.33 on that credit card bill rather than adjusting as the minimum payment drops would save you more than 10 years of payments and more than $1,500 in interest.
When your interest rate is higher, the impact is even more dramatic. If the interest rate in the example above were 23%, it would take nearly 18 years of minimum payments to reach zero, and you’d have paid $4,137.39 in interest over those years. That means you’d ultimately pay $2.65 for every dollar you’d spent using your credit card.
Making the minimum payment of $72.92 once and then continuing to pay that amount as the minimum due dropped would save you more than 13 years of payments and more than $2,500 in interest.
Taking Control of Your Debt
Feeling powerless over debt keeps many people trapped in the cycle of paying too much and seeing little or no progress. The more discouraging the debt cycle becomes, the less people are inclined to seek out solutions. But, as the example above illustrates, very small changes can make a big difference in the long-term. If you’re overwhelmed by debt, the first step is always to take charge: inventory your debts, educate yourself about your options, and determine what the next best step is under the circumstances.
Sometimes, changes in payment priorities, a short-term extra source of income, a lower-interest loan or other solution will allow you to regain control of your finances. But, not always. If this inventory leads you to the conclusion that you truly can’t get ahead under your current circumstances, it may be time to explore bankruptcy.
Chapter 7 bankruptcy often eliminates credit card debt entirely, wiping out not only those large balances but the massive interest charges that would otherwise build up over time. The attorneys at Haines & Krieger off free consultations, so you can gather the information you need to make good decisions for your future. Call 702-880-5554 right now to get started.