Updated: 10/11/2011 4:20 PM ET|
A debt payoff plan that works
You can typically find the interest rate of a loan on your monthly statement or by calling your lender. Calculating interest rates for payday advances and overdraft balances is tougher, but you can figure your annualized interest rate is in the triple digits, so these should be at the top of your payoff list.
Negotiate for lower rates
Lower interest rates will help you get out of debt faster, so you want to check the possibilities for getting better rates on each of your debts. Some ideas:
- Consider balance transfer offers, personal loans or peer-to-peer lending. You might be able to get a better credit card interest rate using a balance transfer offer, although you have to do the math. Fees for these offers usually increase the debt you're transferring by 3% to 4%, so the interest rate break needs to be big enough and last long enough to offset the fee.
- You can find offers at CardRatings.com, Bankrate.com and CreditCards.com. Also check into personal loans from your bank or credit union or a loan from a peer-to-peer site such as Prosper or Lending Club. The rates on these loans are typically fixed, unlike credit cards rates, which can soar to 30% or more.
- Consolidate federal student loans and choose the longest possible repayment term. Consolidation will fix your rate if it's variable and may allow you more than the usual 10 years to pay off your balance. The more debt you have, the longer the repayment term you can choose. Stretching your loans over 15, 20 or 30 years will lower your monthly payment for this good debt so you can throw more money at your toxic debts. Once higher-priority debts are paid, you can speed up your student loan payments. If your job qualifies, you may also be eligible for student loan forgiveness after 10 years.
- Use home equity or retirement plan loans with care. You may be able to lower your interest rates by using these loans to pay off other debts, but you're also putting your wealth at considerable risk.
Categorize your debts
Divide your debts into "good," "neutral" and "toxic" piles. There are those who believe there's no such thing as good debt, but financial planners know that certain obligations can help you get ahead.
A reasonable amount of mortgage debt, for example, will improve your net worth over time as the home gains value (it will eventually, you know). Federal student loans and business loans, in moderation, can help you boost your lifetime income.
These loans have other things in common: The interest rates are often low and typically deductible, further reducing the costs of carrying this debt.
Your goal with good debt should be to pay it off, but not until you've tackled your higher-priority debt.
Toxic debt should be your priority. Toxic debt comes with high or variable rates and includes credit card debt, payday loans, title loans and pawnshop loans.
Neutral debt is debt that isn't necessarily toxic but that isn't helping you get ahead either. It typically includes vehicle loans, fixed-rate personal or debt consolidation loans, and retirement plan loans.
Medical debt is a special case. If you've worked out an affordable repayment plan with a hospital or other provider, you can classify it as neutral debt. If you've signed up for a high-interest loan or provider-supplied credit card to pay it off, it probably belongs under toxic debt.
Private student loans can be tricky to prioritize as well. This debt can help you increase your income, which can make them seem like good debt, but private loans tend to come with higher interest rates than federal loans, and the interest rates are variable. In most cases you'll want to place them at the top of the neutral debt pile or the bottom of the toxic pile -- something to be paid off immediately after your nondeductible credit cards, payday loans and other bad debt.
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