Day 14: Get Out of Debt
Yesterday, we took our “true” budget and set it up so that we paid ourselves first through an automatic investment into a “dream” fund (or series of funds). Today, we’re going to look at the debts section of the budget – and see how we can go about paying down our debts, so that we have more money to direct towards our dreams.
It’s very important to pay down your debt – this is the number one reason most people never reach their dreams, they are always paying interest to someone else and never have enough money to make their dreams a reality.
The “debts” section of your budget should list a number of debts that indicate all of the money that you owe to others. This doesn’t include the minimum payment for each one; we are listing those as “expenses” until each one is gone. You should also have a zero balance in the debt section for all but one of your debts.
Each month, when you go through your monthly bills, all you have to do is pay that amount extra on that expense. Let’s say the only debt you have listed with an amount next to it is a credit card with the amount of $200 next to it. You also have an expense for that credit card, which has a minimum payment of $40. When you go to write the check to pay for that card, write the check for $240.
It will take several months, but soon you will pay off that first debt. When you do, it’s worth celebrating, because you can eliminate both an expense (the minimum payment) and a debt (the extra payment) from your budget. When you do that, take that combined amount (the sum of the minimum payment and the extra you were paying each month) and apply it to the next smallest debt amount. So, let’s say that after you paid off that credit card, your next smallest payment was an auto loan. In your “debts” section, you would put in $240 next to that auto loan. You’ve already budgeted for it, so it will make no difference in your day to day life other than the good feeling of knowing your debts are disappearing.
This technique is commonly known as the “debt snowball,” a term coined by the popular radio host and author Dave Ramsey. We’re currently using the debt snowball and though we haven’t paid off everything, we can attest to how quickly it erases debt and how good it feels as you pay each item off.
You might want to take some time and calculate how long it will take for your “debt snowball” to roll through all of your debts. Figure out the month when each debt will be paid off, then add on that payment to the next debt and see how many months it will take to pay that one off. Before long, you’ll have a very solid idea of an approximate time in which you’ll be debt free – and debt free is a place where you can take that debt snowball and apply it directly to your dreams.
Tomorrow, we’ll look at what to do when you come in under your budgeted expenses in a month (the system is set up so that you can do this regularly, in fact!).
Work on documenting your debt snowball. Calculate how long it will be to roll through your debt snowball and pay off all of your debts. Each month, take any extra money and use it to pay down whichever debt you are working on.
Ready? Let’s continue on to the next day.