So you’re in debt. It happens, and it happens easily. You went overseas and put some of it on your credit card.
You moved house and didn’t realise how expensive it can be. You bought a house. You bought a car. Debt has become a major element in just about everyone’s lives. What differs from person to person is how we handle debt and how we let it affect our financial wellbeing.
You might think a budget is a meager weapon against debt when you really need a full artillery. You’d be wrong.
Budgeting to get out of debt is the key. Your tax return might be a helpful boost. Wishing for an inheritance might be well and good, but a budget that takes account of your income, expenditure and ways to improve your personal finance is the only way it’s going to happen.
This guide will take you through how to budget your way out of debt.
Good debt VS bad debt
Before looking at ways to get out of debt, it’s important to look at the debt itself. Not all debt is created equal. Some debt, like HECS debt or your mortgage, is a debt invested in an asset. It might still be garnering interest but the asset itself is a means of income. The interest rate is generally fairly low and monthly repayments are consistent.
This is not the same as debts such as credit cards, personal loans or car loans. They’re not necessarily bad. Car loans are increasingly used, while a personal loan might be used as an investment in your career or future. But the interest rate is high and, in the case of a credit card debt, the interest rate can make it difficult to pay off the initial amount borrowed.
How to approach your debt
There are several ways to approach your debts. Assuming, for the moment, your mortgage is a standard monthly repayment, let’s look at a couple of ways you could organise the remainder of your debts.
- Move all your debts into one, either one card or into a personal loan
- Advantage: One repayment and one interest rate, enabling easier budgeting
Organise your debts by highest interest rate first
- Organise your debts in order of interest rate
- Put the bulk of your debt repayments towards the highest interest rate
- Advantage: Save money by eliminating the highest interest rate first
Organise your debts by lowest amount owed
- Organise your debts in order of amount
- Pay off the debt with the lowest amount first. If you have a credit card with $500, pay if off first
- Advantage: A feeling of progress and achievement, enabling you to put more towards your debt repayments.
It’s now time to get serious about our debt
Now we’ve looked at how to approach debt, it’s essential to look at how best to use budgeting to eliminate it. This includes analysing our spending, reducing expenditure and automating our debt repayments.
Track your spending and expenses for a month
The goal here is that after 1 month of doing this, we will hopefully establish some spending leaks that could better be redirected into your debt to expedite repayment.
For a month. Write down everything your earned and everything you’ve spent money on. There are apps you can use, Visual Tracker or Track My Spend, if that works for you. Once you’ve tracked your spending for a month, sit down and collate all the figures.
You now have the raw material for a budget. If you’re shocked by how much you spend per month, don’t worry, most people are the first time they attempt this. Likewise, a lot of people will be shocked at what they spend their money on.
It’s now time to write your debt killing budget
You might already have a budgeted amount set aside to repay debt but if you’re reading this article, that suggests you might need to be setting aside a little more. A sustainable but strict budget is the fastest and most effective way to achieve debt repayment.
Get back into the black
Firstly, your budget needs to balance. If you’re spending more than you earn, that’s why you’ve got debt problems in the first place. You’ll never get on top of your debt if your finances are out of kilter, so take a look at what expenses need to go in order to reconfigure your finances.
If you’ve been living at a loss, I would suggest using your new budget that allows surplus at the end of the week for a couple of weeks.
Get used to organising your finances properly, before looking at debt repayment. You can save that money and put it towards debt, but don’t make things too strict, too quickly. The key to debt repayment is steady goes it, and getting over-excited and trying to do everything at once can make things harder.
Cull five expenses to boost repayments
Once you’re in the black, choose five expenses that have to go. Choose ten if you really want to go for it.
- Gym membership
- Cable subscription
- Magazine subscription
- Download habits on iTunes
- One meal out a week
- A bottle of wine a week
- 3pm chocolate bar
- Bought lunch
- Takeaway dinners
- New accessories
There are thousands more expenses we don’t need to spend money on. Take them out of your budget and move the money you save towards debt repayment. It could be an extra $100 a week you put towards your repayments.
Try to make your money go further
Even when you’re spending money, try and make everything you spend on go further. This means, when it comes time to recalibrate your budget, you might be able to put even more money towards debt repayments.
- Cook from your pantry. Don’t buy dinner from the store until the cupboard is bare.
- Water down your dishwashing liquid, shampoo and conditioner. It will last twice as long.
- Cook to reuse. Make bolognese one night, freeze the leftovers and make shepherd’s pie later that week.
Once you have written your budget
You should have an idea of how much money you have per week to put towards your debt repayments. If you have extra leftover at the end of the week, that can go towards it too. Here’s what to do once you have that figure.
Save an emergency fund
What? Save money instead of paying off debt? Now, I wouldn’t recommend saving the entire amount of an emergency fund (three months wages), but before you start paying off debt, you need to have a little bit of money set aside should anything go wrong.
We get into debt when we’re caught unawares, so set aside $500 for easy access money.
Automate your debt repayment
Set up payments so they happen automatically. If it comes out as soon as you’re paid, then you will find you achieve greater debt repayment with significantly less pain.
Recalibrate your budget to ever increase debt repayments
Once you’ve been using the budget a month, re-evaluate. Is it too strict? Is it too easy? Are you making enough progress on your debt, without undermining your financial and social wellbeing in the process?
Have you taken into account new, necessary expenditure or increased income? It’s an ongoing process and you’ll pay off your debt effectively if you allow your budget to remain flexible and well-maintained.