“If you know the enemy and know yourself, you need not fear the result of a hundred battles. If you know yourself but not the enemy, for every victory gained you will also suffer a defeat. If you know neither the enemy nor yourself, you will succumb in every battle.”
– Sun Tzu, 6th century BC philosopher and author of The Art of War
It’s a certainty that Sun Tzu didn’t whip out his credit card to stock up on writing supplies, but he does introduce a useful lesson for anyone struggling with debt as their enemy. While it may be an uncomfortable subject, you have to get comfortable knowing both your debt and your habits that got you into debt.
Americans have accumulated more than $1 trillion in outstanding consumer credit, roughly $11,000 for every household. That’s a pretty fearsome foe! It’s time you get to know your debt enemies and build your debtor defenses.
Let’s start with the basics: Debt results from spending more than you make. The best defense against this is setting – and sticking to – a budget. It’s easiest to get a handle on debt if you know how much you have to spend and what financial obligations you have, including setting some aside for savings. If there’s too much month at the end of your money, start by cutting non-essential expenses and consider additional sources of income. Side jobs, showcasing your craft skills on Etsy or clearing out your closets with the help of eBay or a yard sale are all easy ways of finding some additional dollars.
Cash is king: If you’re using a credit card for basic purchases and not paying the balance off each month, you may be in serious risk of financial trouble. Unless you can pay that balance off in full each month, you should be paying for food, gas and other everyday items with cash, or at least your debit card. It’s OK to use credit cards as a convenience or as a means of accruing rewards as long as you pay off your balance every month. If you’re not able to, budget your expenses, set cash aside in an envelope for each expense, and use that.
Free yourself from fees: Carry a credit card balance? You pay interest. Late with your payment? You get a late fee. Over your limit? That’s another fee. The same is true with your checking account: If you’re getting hit with credit fees or insufficient funds fees on a regular basis, it’s time for a change. It’s generally recommended to keep credit card balances under 30% of your credit line. That translate to using no more than $1,500 of a $5,000 credit line.
Understand debt-to-income ratio: Lenders look for a debt-to-income ratio of about 25% to 30%. What does that mean? Your total debts divided by your total income equals your debt-to-income ratio. Say you have $1,000 in debts and your income is $2,000, your debt-to-income ratio is 50%. That alone doesn’t mean you’re at risk, but it should give you pause on making any unnecessary purchases until you have more money coming in.
Count your cards: If you’re undisciplined, it’s pretty easy to rack up debt on a credit card. It stands to reason the more cards you have, the more debt you’ll incur. A good measure of whether this is a risk is to determine whether you can pay off your total debt in one year. If the answer is “no,” your debt may be taking control of you rather than you controlling your debt.
Take no for an answer: Every time you apply for credit, the lender will look at your credit score and history to determine whether to grant the loan. It’s based entirely on your past credit performance, specifically on-time payments and overall balance. The more late payments or high balance accounts you have, the lower your score will be. Consequently, your chances of getting credit at a reasonable rate, if at all, might be low, too. If a lender denies you credit, take that as a warning sign and start taking steps to improve your credit picture.
Using credit for credit, part I: Most credit cards allow users to take a cash advance. It seems easy and convenient, but this is not free money. Not only are you responsible for the principle you borrowed, you’ll have a cash advance fee (usually a percentage of the advance amount) PLUS interest on the borrowed amount. This is often at a much higher interest rate than purchases, even on the same card.
Using credit for credit, part II: Credit card companies have found a veritable gold mine by inviting consumers to take advantage of “balance transfer cards”. This is a new line of credit offered with a zero or very-low interest rate, for a limited period of time. Too often, consumers don’t pay off the balance and find themselves with another high-balance account with a high interest rate, as well. Taking advantage of this tool is a good idea if you’re able to use that window to pay off the balance. Otherwise, you may be digging a deeper hole.
Making the minimum: Would you buy a pack of chewing gum if it cost you $50? Not likely! That’s the risk of putting purchases on credit without being able to pay your balance at the end of the month. If you put that gum on credit and then just made the minimum payment for, you could rack up interest charges that far exceed the original purchase price. If you’re doing this on a regular basis, it’s a sign you need financial counseling.
The 401 (not oK): Borrowing money from your retirement savings is one of the worst financial moves you can make. First, you’ll take a significant tax penalty as soon as you initiate the withdrawal. More importantly, you lose future accumulation on whatever money you withdraw. That could short you thousands of dollars of income when you’re retired and leave you in a financial pinch when you’re less able to earn regular income.
Feeling stuck: If you feel like you’re on a never-ending treadmill with your debt, it may be time to consider a debt consolidation loan or a debt settlement plan. Both can be effective at paying off existing debt, while teaching you skills to avoid repeating this problem in the future. You’ll need to change your spending habits and commit to a successful conclusion of your debt program. In as little as 2 years, you can be debt free…and smarter about remaining that way.
Vantage Acceptance has deep experience working with credit card companies to negotiate lower credit card payoff balances on behalf of thousands of our clients. We’ve been able to create plans that change lives for the better. If you are sick of your high balances and interest payments, contact one of our experienced debt managers at (800) 725-0214.