It’s easy to get deep into debt, yet you have to fight tooth and nail to climb back out. Interest costs eat away at more of your paycheck every month, making it tough to save and hit your financial goals.
If that weren’t hard enough, the journey out of debt is fraught with other perils. Make sure you avoid these common debt reduction mistakes as you get your financial life on track.
1. Not Paying Attention to Refinancing Loan Interest Rates
Refinancing is a common tactic for saving on loan interest, especially in the mortgage world. It involves paying off your current loan by taking out a new, lower-interest loan.
In many cases, borrowers will pay off several loans with this new loan. This is called loan consolidation.
But the new interest rate can actually be higher if you aren’t careful. You have to calculate the average interest rate across all your loans and factor in each loan amount.
For example, a $5,000 loan at 10% interest and a $4,000 loan at 12% interest don’t average to an 11% interest rate when considering that the latter loan is smaller than the former. Using an online weighted average interest rate calculator, you’d find the weighted average interest rate is 10.89%. Your new loan must fall below that.
2. Not Paying Off a Promotional APR Balance On Time
Some credit cards offer promotional APRs for purchases, balance transfers, or both for a time period, usually 12-18 months.
During this promotional period, you pay no interest or fees on the type of transaction (purchases or balance transfers) as long as you make the minimum payment.
But once the promotional period ends, you’ll start incurring interest on your current balance. Make sure you pay off your entire balance incurred during the promotional period to avoid this.
3. Spending With a Balance Transfer Card
In a similar vein to the above tip, some people get a balance transfer card to move credit card debts and avoid interest while paying off the debt.
However, it becomes tempting to use that balance transfer card — especially if it has excellent rewards — for purchases. Doing this can make it harder to pay off the transferred balances.
Until you pay off all transferred balances, it’s wise to avoid spending a single penny with that balance transfer card.
4. Not Having an Emergency Fund
Diligently paying off debt is commendable, but all that progress is fragile if you have no emergency savings. One unfortunate event — such as a car crash or job loss — can have you sinking back into debt to cover costs.
That is, unless you have 3-6 months of emergency savings in the bank.
5. Keeping the Same Financial Habits
Eliminating debt really comes down to changing your financial habits. It’s hard to be free of bad debt without shifting towards a mindset where you prioritize living below your means and spending only on things you value.
For example, refinancing to a lower interest rate won’t help much if you use your savings to buy more things you don’t need.
Similarly, if you do a balance transfer yet continue to spend above your means, you’re only kicking the can down the road.
So if you hope to truly make a difference in your financial life — especially when it comes to debt — the key is to commit to good financial habits.
