When managed carefully, credit cards are important financial tools. They allow cardholders to build credit, benefit from cash back or travel rewards and even purchase insurance or protection. On the other hand, when a person is not able to manage its money, things can quickly get out of control.
Credit card debt can easily become an albatross that affects your emotional and physical health. In fact it’s easy to feel stuck and frustrated in a financial situation where you’re struggling to keep up with your minimum payments and have no oversight over your future plans. Thankfully, there are different solutions to help you manage debt and regain control over your financial situation.
How credit card debt affects your credit score
It is well known that any debt has a ripple effect on your financial health including your credit scores. Credit card debt constitutes what we call a revolving debt, which means credit cards make you carry, or revolve a balance from month to month. Therefore, your interest rates are not predetermined and your monthly payments vary depending on how much you currently owe.
With revolving debt, it’s important to make payments on time because when you fail to do so, your lending institution can report it to the credit bureaus, which can negatively impact your credit score. These types of mistakes can stay on your credit report for up to seven years.
In order to maintain a good credit score, you should keep your credit card balance as low as possible and pay off your full statements at the end of each month.
What is the smartest way to pay off credit card debt ?
Once you’re ready to pay off your credit card debt, the key is to develop a debt payoff plan and stick to it. If you have just one debt, it will be easier to manage. However, if you have multiple lines of credit, you should analyze the details of each, create a budget and determine which debt to pay off first. There are many strategies to help you pay off debt faster and two of the most popular ones are debt snowball and debt avalanche.
Debt snowball vs. Debt avalanche : Which method is best ?
Debt snowball and debt avalanche are useful strategies to become debt free. Both of these methods require you to list your debts and make minimum payments each month. So, what’s the difference between the two?
Debt snowball method
The debt snowball method consists of paying off your debt in order from smallest to largest. When your smallest debt is paid off, you can start paying off the debt that has the second smallest balance and so on.
Many people choose this method because it helps build motivation and dedication for debt repayment. You can celebrate small successes from the beginning, which gives you more willpower to pay off the rest of the rest of your debt.
As its name suggests, just like a snowball, the bigger it gets, the more and more snow it picks up. The same principle applies here; each balance paid off gives you more money to help you pay off the next one faster.
The debt snowball method has the potential to improve your credit score quicker since it helps you reduce the number of accounts with outstanding balances faster. The downside of this method is that, since you’re not taking into consideration interest rates, you may end up paying debts with high interest rates over a longer period of time and thus paying extra fees.
Debt avalanche method
The debt avalanche method focuses on paying off the debts with the highest interest rates first. A lot of people rely on this method since it allows them to save hundreds of dollars on interest payments.
In fact, every time you pay off an account, you free up more money to put towards the next debt with the highest interest rate. The result is that you can reduce the amount of money you would otherwise have to pay and reduce the time it takes to pay off your credit card debt. It may take a while for you to see actual results but if you stick to your repayment plan, you will see your debt fall like an avalanche.
Overall, the best method is the one you can commit to and that fulfills your personal needs. Both these debt repayment methods can certainly help you get out of debt and regain your financial freedom.
What type of debt is best to pay off first ?
When it comes to which type of debt you should pay off first, this again depends on your personal circumstances. However, it is generally recommended to pay off the debt with the highest interest rates first.
In many cases, this means prioritizing and paying off credit card debts whose interest rates can max out at 30% and personal loans, which can have interest rates of up to 36%, over student loans, which tend to have lower interest rates.
If you have some payday loans or short-term personal loans, you may want to prioritize those as a delayed payoff could have drastic consequences of your credit score and even result in more debt.
Get a free consultation with a licensed insolvency trustee
4 Tips to reduce credit card debt
1. Analyze your budget
The first thing to do when you want to reduce your credit card debt is to start by analyzing your expenses and categorizing your monthly spending. This will help you get a clear view of where your money goes.
Next, start reprioritizing your budget by looking for areas where you can cut back and then take the money you freed and use it to pay off your debt. Making a new budget can be of a huge help to log your income against your expenses and find problem areas.
2. Pay more than the minimum
If you can afford it, try to pay more than the required minimum payment on your credit card. If you pay extra each month, you’ll pay less in interest overall and it will take you less time to pay off your debt. The secret here is to be realistic and consistent. This method can help you save hundreds of dollars in the long run.
3. Negotiate lower rates
A lot of people don’t know this but it is actually possible for you to negotiate your credit card interest rates with your bank. So, if you find yourself struggling to pay your credit card, you can contact your bank and ask for a lower rate.
The bank will most likely accept because they have more to lose if you default on your debt. Plus, having a good credit score and a history of timely payments will play in your favor.
4. Use more cash
It’s true that credit cards are valuable tools, but only if they’re used correctly. So, if you find yourself overwhelmed by your credit card debts, you might want to stop using them and instead use cash to pay for your expenses (except for emergencies). Paying in cash will help you understand the difference between your needs and wants, and make sure that you spend more consciously.
Solutions for overindebtedness
Debt consolidation
When used properly, debt consolidation loans are a great way to get out of debt. Consolidating your credit card debt with a personal loan or your mortgage, can help you get out of this unpleasant situation while boosting your credit score.
A personal loan is more of an installment loan rather than a revolving one (like credit cards) so the account’s balance does not hurt your credit score. Moreover, by consolidating your debts, you benefit from several other advantages such as lowering your monthly payments and possibly your interest rates. However, in order for this to work, you must be careful and adopt the right habits to make sure you don’t get more debt.
Consumer proposal
A consumer proposal is a way to relieve yourself of your debt by avoiding the black stain of bankruptcy on your credit report, since it demonstrates a willingness to pay and to regain control over your financial situation.
With the help of a Licensed Insolvency Trustee, you can write a proposal offer to your bank or lending institution to repay a percentage of the amount owed to them or to extend the period during which you must pay your debts.
Banks and financial institutions generally accept these proposals because they allow them to be reimbursed a significant portion of a debt rather than lose all of it if the person decides to file for bankruptcy. Depending on your financial situation, a consumer proposal can be an effective and reliable way to repay your debt.
Personal bankruptcy
If you find yourself in a situation where you’ve tried everything but nothing seems to work out, personal bankruptcy can offer you a fresh start. Declaring personal bankruptcy can be a long and expensive process so make sure to consult a bankruptcy trustee.