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Deep in Debt? What to Do and Where to Get Help

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If you have a debt problem, you have many options to reduce it and pay it off.

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Are you worried about your level of debt or unsure whether you can make your payments? Don't panic; there are many resources out there to help you get back on your feet, and no crisis is insurmountable. Most of the time, you'll hear that debt is a problem. It's not (at least not necessarily), and even if you're struggling with debt, it's a symptom, not a sickness. And as with any sickness, you'll have to diagnose and treat the root cause before you'll get better.

Diagnose the Debt

Your first step is to figure out why you're in debt and how severe the issue is. Generally speaking:
  • Your total monthly debt payments shouldn't exceed 33% of your income.
  • Your total non-mortgage debts (including student loans) shouldn't exceed your annual salary.
If your debt levels exceed those benchmarks, you might want to consider ways to lower them.

Keep in mind that there are different kinds of debt. If you take out an auto loan in order to travel to your new, high-paying job, that's one thing. If you can't stop spending on your credit cards, that's another.

Good Debt
  • Investments: Debt that will increase your future earning potential: Attending this more expensive school will increase my earning potential tenfold. Example: I'm willing to take on loans now because I'm relatively confident my first year salary will repay the loan with room to spare.
  • Calculated spending: where you recognize that you'll pay more down the line for what you do today, and are in a place to do so financially. Example: I know have to pay $120 for this $100 purchase. But since my debt loads are pretty low and my income steady, I can take the hit.
Bad Debt
  • Impulse purchases: Where you are unable or unwilling to face the higher costs but cannot stop yourself. Example: This $100 purchase would cost $120 with interest based on how long it would take to repay. It's not worth $120 to me, but I've bought it anyway.
  • Debt spirals: Where you borrow more in an attempt to dig yourself out of a hole, but just end up going deeper in the red. Example: So much of my income is going toward my medical bills that I'm putting my groceries on my credit card.
The typical debt advice – single-minded focus on payoff, cutting up your credit cards, and avoiding indebtedness for the rest of your life – only makes sense if you fall victim to impulse purchases. If you approach debt in a calculated way, there's no reason to go cold turkey on credit. Still, no matter how large your debt or how you came by it, you can always benefit from trying to minimize the costs of borrowing.

Make a Budget, Make a Plan

The most effective way to beat back your debts is to make more money. Think of it this way: Say you had $10,000 in credit card debt with a 15% interest rate that you plan to pay off over two years. You can save about $800 in interest costs by paying off your debt in just one year (which means you pay $903 per month instead of $485) – or you can negotiate a raise or find a way to earn extra income on the side. While not always feasible, it's generally easier to earn more than spend less.

Past that, you'll need to put in place a spending plan that:
  • Covers necessary expenses such as food and housing
  • Keeps money accessible for emergencies
  • Leaves enough "play money" that you can occasionally treat yourself
  • Takes as many painful decisions out of your hands as possible
Here's how to break down that budget:

1. Figure out how much you need for absolute essentials

2. Choose two or three of your most treasured "money buys happiness" expenditures, whether that's a daily Frappucino, a gym membership, or going out to eat once a week.

3. If you're really in dire straits, think about reducing your expenses – moving to a lower-rent apartment or cutting back on cable and entertainment. Saving room for indulgences will help keep you motivated. You don't have to stick with the same indulgences, of course, but it'll force you to think critically about what you most value.
4. If your basic expenses and your two to three discretionary budgets take up more than 70% of your after-tax income, cut out the most expensive of your non-essential expenditures.
5. The rest of your income will go into a debt repayment fund. Have this amount direct-deposit into a special high-yield checking account that you will only use to repay your debts. Once you've built up an emergency fund of about four months' worth of expenses (or if you already have it), set up the account so that it automatically pays off your debts each month. As they say, "Out of sight, out of mind." It's harder to be tempted to spend money you don't see.

Cut the Costs of Your Existing Debt

There are a number of ways you can lower the costs of borrowing, or if you're in dire need, reduce the balance of your debt.

General Debts
  • Use 0% credit cards. If you have good or excellent credit, you can use a 0% APR credit card to reduce the interest you'll pay. If you have existing credit card debt, you can transfer the balance to another card. If you have other debts (say, a year's worth of payments on a student loan), you can pay them off early with a 0% purchase APR credit card and then pay off the credit card during the zero interest period. Be careful not to go over the zero interest period. Credit card interest rates are often far higher than those for personal, student, or home loans.
  • Home equity loans and lines of credit. HELOCs and home equity loans often have lower interest rates than credit cards or personal loans. However, this does mean you're borrowing with your house as collateral. If you fall behind, you could lose your home.
  • If you're a victim of financial abuse, the Economic Justice Curriculum offers a great suite of resources. You might be able to take your abuser to small claims court for medical, legal, or property damage charges (if it is safe to do so) or receive reimbursement from the of Crime Victim Compensation Board.
  • Check your benefits. Use the federal government's benefit finder to see if you're eligible for additional assistance.
  • Talk to your lender. If you've recently become unemployed, sick, or injured or have another extenuating circumstance, your lender might be willing to let you defer your payments until you're back on your feet. Be careful, though: Often, your debts will continue to accrue interest even though you don't have to make payments. Make sure to talk to your lender before you're completely unable to meet your payments – such things can move slowly, and you lose a lot of flexibility.
Auto Loan Debt
  • Consider selling. Many car loan agreements allow the lender to repossess your car if you default, without notice. If this happens, you're on the hook for the remaining balance of the loan, as well as storage and towing costs, to get the car back. If you can't pay, the lender might sell the car. If you think you're going to default on the loan, you might be better off selling the car and using the money to pay off the loan. This will avoid a hit to your credit score and potentially lower the cost.
Credit Card Debt
  • Negotiate a better rate. Even if you don't have perfect credit, you can try to negotiate a lower interest rate on your existing credit card debts. Tell your credit card issuer, "I need a lower interest rate, but I'd rather not leave you."
  • Transfer to an existing card. If one of your existing credit cards has a substantially lower interest rate than another, you can shift your debts to the lowest-rate card. Keep in mind, though, that most cards levy a 3-5% balance transfer fee on the amount you shift. Make sure the interest rate savings are worth it.
Student Loans
  • Consider an income-based repayment plan. If you have federal student loans, an income-based repayment plan will cap your monthly payments to 15% of your discretionary income. Repayment plans can stretch for 25 years, and the debt may be forgiven after that period.
  • Public service. If you take up employment in the public or nonprofit sector and you have a federal direct loan, you may be eligible for loan forgiveness after 10 years.
Medical debt
  • Use medical credit cards. If you're about to take on a costly medical expense, a medical credit card might – in some cases – be a good idea. They offer zero interest if you pay your bill in full within six to 24 months (depending on your creditworthiness and other factors). However, if you don't pay your debt in full, you'll owe interest on the entire amount, not just the unpaid balance.
  • Work out a payment plan with your hospital or doctor. The NerdWallet hospital bill tool can help you discover how much Medicare pays for a procedure; this can give you negotiating leverage with your doctor. Even if you can't haggle down the amount you owe, the provider might agree to a fixed payment plan.
Mortgage Debt
  • Consider refinancing. Interest rates are inching up slowly, but they're far below the 5-6% level of the last decade. You might be able to secure a lower rate – and therefore monthly payment – by refinancing your mortgage. If you're really struggling to make your payments, a refinance might extend the term of your loan (but increase the overall cost of your mortgage). However, there are costs associated with refinancing, and it's not a decision to be made lightly.
  • If you're having trouble making payments, check out the Making Home Affordable program. They have monthly payment, interest rate and even some principal reduction programs available to struggling homeowners.
  • Consider giving up your home without foreclosing. If you're facing foreclosure and your home is worth less than the balance of the loan, you can consider either a short sale (where the lender forgives the difference between the loan balance and the sale price) or transferring the deed of the home to the lender in lieu of foreclosure
When You Can't Stay Above Water

If you're still really struggling with debt, there are places you can go for advice. A credit counseling or debt settlement agency can help you get your finances in order and create a repayment plan. Make sure to check with your state attorney general to see if the agency is legitimate.

Get everything in writing and read the fine print! The debt relief business is a minefield of scams.

Credit counseling organizations can give you financial advice, help you manage your money and debt, and assist in budgeting. Keep in mind that "non-profit" doesn't necessarily mean free. Some agencies have high fees or "voluntary" contributions.

Debt management plans, structured by credit counseling agencies, can help consolidate or sometimes reduce your debt. You deposit money directly with the counseling agency, which then pays your student loans, credit card bills, etc. in accordance with a payment schedule. The agency might also help you work with your creditors to lower your bills. These programs may take years, and you may have to agree not to take on any new debt during the program.

Debt settlement programs are a risky proposition: a company, usually for-profit, lets you "settle" your debt with a lump sum payment less than the amount you owe. You make fixed monthly payments – sometimes for three years or more – and at the end of it, the debt settlement company pays off your creditors. While this sounds like an easy way out, it's rife with risks, from scammers to ruining your credit to not being able to keep up with the payment schedule.

Bankruptcy. The nuclear option of debt management is bankruptcy: though it gets rid of (some of) your debt, it'll put a black mark on your credit report for 10 years. Your credit report can affect your ability to get insurance, qualify for loans, or even get a job, so this isn't a step to be taken lightly. There are two types of personal bankruptcy:
  • Chapter 7. Where most of your debts are cancelled (except for mortgage, car payments, student loans, taxes and unpaid child support), but you must meet an income means test and can lose your non-exempt property
  • Chapter 13. Where you keep your property, but pay back your debts over a three to five year period.
Watch Out for Scams

There is any number of unscrupulous people looking to take advantage of those in financial trouble. Be wary of anyone who promises to lower your interest rate, get rid of your debts, or otherwise wave a magic wand that'll fix your money problems. In particular, keep an eye out for:

Credit card interest rate reduction cold calls. A telemarketer calls you and says he can lower your credit card interest rate – possibly to zero – to a credit card that he'd secure on your behalf. You'd have to pay an advance fee, however, that could be as high as $600. If you get a call like this and you think it's from a legitimate bank (like Citibank or Chase), hang up and dial the bank's number directly. Remember that no one can promise you a credit card without a credit check or identity verification.

"An important message concerning your credit card." If you get a robocall from "Cardholder Services" or something like that, hang up. If you think it might be your bank calling, call their number directly. These spammy robocalls often charge fees for "lowering" your interest rates, but never deliver the promised savings. Remember: Never give out your credit card, financial, or personal information over the phone.

Auto loan modification schemes. These schemes promise to reduce or eliminate your debt in exchange for an upfront fee. Occasionally, these scammers will tell you to stop paying your auto lender altogether, which leaves you in even worse shape.

Debt relief cold calls. A telemarketer calls, offering to reduce your debts for an upfront fee. She promises to refund the fee if your debt isn't lowered. But not only does the "debt relief" company not actually do anything to lessen your debt burden, it also pockets your fees and sometimes even makes illegal charges to your credit card.

Credit repair clinics. Some companies promise to "clean up" your credit by erasing missed payments or loans. Remember: No one can remove accurate information from your credit report, and you can fix inaccurate information for free. Federal law prohibits these clinics from charging a fee until the service is performed.

Resources
Editor's note: This story by Anisha originally appeared on NerdWallet.

To read more from NerdWallet, see:

Are My Savings Safe? A Game of Thrones Guide to FDIC Insurance

How Much Should I Save? How to Create the Ideal Budget – and Stick With It

The Hedge Fund Advertising Ban Lifted: What Should Investors Know?
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