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How To Get Out Of Debt

Hey Loves!

Today is going to be a guest post by my husband, Christian. My husband and I have dug ourselves into debt to the point where it has started effecting our lives and our happiness. It's to the point where we want to get out of debt and stay away from credit cards for good. We've also been craving minimalism and self-sufficiency. We are tired of renting but we refuse to get into more debt so therefore were trying to pay off all of the bad debt and school loans before we starting looking for a house and get ready to start our family. So, without further ado, here is Mr. E.

I think we all get to the point where we realize that debt is a constricting monster. It starts small sometimes. You get a credit card with a low limit, maybe $300-$500, to build your credit as a teenager starting to go to college. You commit to building your credit and only use it for some groceries or gas here or there. Then, you figure "Well, I've got the limit. I can use it to buy that game console I really want and just pay it off quickly." or "It's just $300. I can go out with my friends and have a good time and then worry about paying it off later."

Hi, my name is Christian. My wife has mentioned me numerous times in this blog. I should know since I edit these posts for her before they make their way to the screens in front of you. Like many of you, I have made the same mistakes as above and more. Both of us have. We convinced ourselves that debt was a necessary evil. That you need credit to do anything of worth. Or even worse, that we can purchase this or that and we will pay it off later.

We found ourselves being constricted by this monster that is part societal pressure but mostly lack of personal discipline and direction. It's a bit difficult to admit that we have had trouble with finances, but they say that admitting that you have a problem is the first step. When you understand that there is a problem then you are in a position to start finding a solution. That understanding is what led me to pick up The Total Money Makeover by Mr. Dave Ramsey.

What I found when reading this seemingly generic, self-help-guru looking, book is that this is a fellow that gets it. According to his own website, Dave was a millionaire by age 26, making $250,000 a year with all of the bells and whistles coming along with it; beautiful house, new cars, etc. Along the way, he managed to dig himself into a massive debt hole that caused him to lose everything. Dave isn't the only one.

Let's see some numbers. I have gathered these all from
  • Total Revolving Debt (98% of which is Credit Cards) in the US: $798.3 Billion as of May 2011
  • Average Debt per household: $6,600.
  • Average Debt per household if you only count those that use credit: $15,799
  • Number of credit card holders in the US: 178.6 Million
A direct quote from the website: "Let’s say you have exactly the average credit card debt of $6600. You manage to get a balance transfer to a new credit card without any balance transfer fees at 12% interest – just below the national APR average right now. If you paid only the minimum payment which will start around $132, it will take you over 23 years to pay back your debt and you will pay $6144.87 in interest."

But that's just credit cards. Things look even more bleak when you consider consumer debt. Consumer debt is non-business related debt that is accrued without a credit card, such as lines of credit.

  •  Total Consumer Debt in the US: $2.43 Trillion as of May 2011 
  • Average Debt per household: $16,046.
  • Average Debt per household if you only count those that use credit: $54,000
  • The average college student graduates with $20,000 in student loan debt
  • In 2009, 1.4 Million bankruptcies were filed.
Those are a lot of numbers, the website has a few more if you're interested, and they illustrate the problem well enough. Debt is strangling many people and their families.

Maybe you have even found yourself stressing over reducing your own debt. If so, I want to help if I can. My suggestion for your first step is to buy or borrow a copy of The Total Money Makeover. If you aren't convinced then I will go over the 7 steps that Dave outlines in his book: the Baby Steps.

Before we get into it, I want to be clear. I know that many people use credit very responsibly and don't use more than they can pay off from their budgets each month. Many people like to use credit for the "benefits" that you accrue, such as points that can be redeemed for gift cards, air miles or even to pay off some of the balance on the credit card/line. Many people do see credit as at least a necessary evil. I get it. At the same time, my wife and I have come to disagree with folks that believe this way. For us, credit is not a positive thing, it is a pitfall. A pitfall that most people are conditioned to believe is wholly necessary in order to live in the modern world. Once we discovered that credit is actually unnecessary, it made it easier to commit to these steps.

Do you want a car? Save up for it or purchase what you can afford. You don't need a brand new car if you can't afford to bankroll it. If you're committed to dropping debt, then this is the reality. Buy a car for a few thousand or less that will last you for a couple years while you attack your debts.

Want a house? Don't take on the biggest payment you can afford a month. In Dave's method, he suggests finding a home that you can REALLY afford. That means getting a 15 year fixed rate mortgage in which the monthly payments don't exceed 25% of your monthly income.

It sounds difficult. That's because it is. It's hard to get out of debt. But if you really want to cut the credit noose once and for all, continue reading. Before you get into the Baby Steps, it is essential that you sit down and budget your money. Budget EVERY monthly cost and consider EVERY income. We use the EveryDollar app that you can download to your phone or tablet. If you're so inclined you can purchase a premium subscription and attach your bank account to the app and it will automatically populate the incoming and outgoing money for you and make it a bit easier. Once you have budgeted and know where your money is going, it's time to hit the Baby Steps for real. Let's get it started!

Baby Step #1: Save $1,000 for a beginnner emergency fund

This is how you get started. The goal is to dump all of your excess funds into paying down your debt. But what if life happens? That cheaper vehicle that you have may need repairs or you may need to fix some stuff in the house. Maybe you have to take a kid to the doctor. You will need SOME safety net. As quickly as you can, generate $1,000 and put it in a separate savings account. This an EMERGENCY fund. Don't make excuses to pull from it for Sunday night pizza or for entertainment.

To make it even harder to misuse, I suggest a Money Market Savings Account from Ally Bank. It's an online bank that has some of the highest APY's for savings accounts that I have seen. The money market savings account has a debit card but allows for only 6 transactions/withdrawals a month. This is good to discourage frivolous spending. It also makes your emergency fund easily accessible should an emergency arise. All you do is drop it in your lock box for that rainy day and your emergency fund is save and sound.

Baby Step #2: Pay off all debt but the house

Here is the big part. Only the second step but one of the biggest steps as it signals that you are turning your life around for the better. This is where the Debt Snowball comes into play. The Debt Snowball consists of a list of your debts, from the smallest balance to the largest. You will pay them off in this order. You make all of the minimum payments but you throw all of your excess money at the end of your budget into the smallest debt. When you pay that debt off, you take the extra money and throw it at the next largest debt. This way you make progressively larger payments to pay off the larger debts.

Here is a very simple example.

Credit Card #1
  • $300 balance
  • $35 minimum payment
Credit Card #2
  • $500 balance
  • $35 minimum payment
Student Loan #1
  • $2,000 balance
  • $100 minimum payment
Income for paying debt
  • $200 a month
Pay Card #2 and Student Loan #1 on the minimum payment. Put the extra $65 towards Card #1. Once Card #1 is paid off, roll over that $65 into the $35 you're already paying on Card #2 for $100 a month going into that balance. Once Card #2 is paid off, roll over that $100 into Student Loan #1 for a total monthly payment of $200. Make payments until all debt is paid off. Incidentally, this will take you about 14 months to pay off these debts at this rate. This doesn't take APR into account. It's just an example to show how this plan works.

Some might ask, why not pay the higher APR debts first? You could do that if you want, but by paying the smallest debt off first, it makes for a more progressively increasing monthly payment and it provides you with some encouragement. You can do this! It will take time but at the end of this hard work is a lifetime of debt-free living!

Before we move forward, a note on the Debt Snowball and your emergency fund. So, you get in an accident and you pull from your emergency fund to pay $500 for the insurance deductible. Now you don't have the full $1,000 in your savings. In this case, press Pause on the Debt Snowball and replenish your savings to $1,000. Once you've done that, resume the Snowball and get after it again. It will take some time but don't be discouraged, you're on the right path. 

Baby Step #3: Save 3 to 6 months of expenses

First off, Congratulations! You've paid off all of your debt, except for your house. Take a moment and breathe it in. No creditors calling, no debt collection, that much less stress in your life. It's good isn't it? However, you are far from done, so don't lose that intensity. Not only are you leaving debt in your rear view, but financial struggle in general. Every step moving forward is going to build on the foundation that you've laid by removing debt from your life.

In the first step, you saved up a bare minimum amount of money as an emergency fund. Now, you expand on it. Since you have no debt now, except for the house, it should be relatively easy to build up your emergency fund to cover 3 to 6 months of your expenses. Experts suggest 3 to 6 months of expenses because life happens. Cars break down, roofs get old and people get sick no matter what you do. The point behind saving up expenses by the month like this is also in case you and/or your spouse lose a job or becomes temporarily disabled. Yes, you might get lucky and find a job right away but sometimes it takes a while. By saving up according to your expenses, you ensure that you can keep the lights and heat and fill up your car and fridge while you are out of work.

Dave Ramsey recommends getting Disability insurance for these instances as well, but having this built up emergency fund will cover any eventuality.

Baby Step #4: Invest 15% of household income towards retirement

You never figured you'd get to this point did you? I mean, you thought about it, but never actually did anything about it right? Don't worry, we did the same thing. But there is a reason that all of the financial people and old folks say to start saving for retirement NOW. The more you contribute now, the more your money will grow before you start taking distributions when you get to a certain age.

If you aren't sure what to do about saving for a retirement, look to your company for your first step. Many companies have 401(k) plans in which they will match your contributions up to a certain percent or dollar amount. Take advantage of this if possible! I actually work for a company that makes contributions regardless of whether I make contributions so we were blessed.

If your company doesn't have any retirement or 401(k) plans, visit your bank or other financial institution to learn about the Roth IRA. The main difference between these two vehicles for retirement is in the taxes. With the 401(k) all of the contributions are made directly from an employees paycheck, by the employer, before any taxes are taken out. The annual limit for 401k contributions is $18,000 for those under the age of 50. Those over 50 may make an additional $6,000 in "catch-up" contributions.

With a Roth IRA, the first difference is that the individual seeking retirement investments goes directly to the investment firm to set up an account. There are no employer contributions but because the plan is not limited to what an employer determines, the investment opportunities can be greater. Also, the contributions made to the retirement account are done with after-tax income but annual contributions cannot exceed

Another difference is that investment gains made with a 401(k) are not taxed, however, distributions taken from the account after the individual turns 50 are considered taxable income. With a Roth IRA, no investment gains are taxed and no income taxes are levied.

If you want to invest more for retirement than what is allowed annually, you can look into other retirement plans. If you have a 401(k) with your employer, you can look into a Roth IRA to contribute the rest of your retirement funds.

Baby Step #5: Save for College

We all probably have some sort of student loan hanging over our heads. As mentioned above, the average college graduate will have a $20,000 student loan bill hanging over their heads at the end of their program. With that in mind, wouldn't you want your children to avoid that as much as possible?

There are mixed feelings on college. Some say that it is essential to make a decent living, others disagree. I find that both sides of the argument make good points on the matter. Regardless of whether your child goes to an actual college or not, it's a good idea to set aside funds for any kind of post-secondary education after high school. This is where Baby Step #5 comes into play.

If you have children or plan on having children, then look into starting a College 529 plan or an ESA. I'm sure you're asking what they are.

A College 529 is a post-secondary only savings plan that is good for parents who make more than a certain amount ($110,000 Single, $220,000 Married, Filing Jointly) and want to be able to save up a good chunk of change quickly for their children. Contributions made to the Plan are not taxed until after $14,000 has been reached for the year. In this instance, Gift Taxes may apply. The total plan limit is between $200,000 and $500,000 depending on the state of residence. And then, if the child in question does not go to college, the plan beneficiary may be changed to any other person, so long as they are a relative.

A Coverdell ESA (Education Savings Account) is an education savings plan that is good for elementary, secondary and post-secondary education. This plan can only be used by parents who make less than $110,000 (Single) or $220,000 (Married, Filing Jointly) and the contribution requirements are a little tighter. Whereas the 529 plan is an account in the name of the parent (or someone whoever opened the account) with a named beneficiary, the ESA is in the name of the child and the bank is the custodian. Also, while there is no limit on lifetime contributions, there can be no more than $2,000 in contributions per year. Then if the child decides not to go to college, then the ESA beneficiary may be changed to another child or, when that child turns 30, they will receive the funds in a distribution, less income taxes and a 10% penalty.

There is more to these savings plans, so I strongly suggest looking into them. Even if your child doesn't go to a typical post-secondary school, you might be able to use these funds towards their education. If nothing works, you can always just start a simple savings account or invest in some mutual funds, anything to get your young ones off on the right foot without a debt burden!

Baby Step #6: Pay off your Home

So you've gone from hopeless and in debt to hopeful and in control of your finances. You've started to save for retirement and your children's futures. You even have an emergency fund for when Murphy comes for a sleepover. But you aren't QUITE out of debt completely. If you followed the Baby Steps tightly and have a house payment, it's time to tackle that. Every bit of excess money you have, throw it at that mortgage. If you have an adjustable rate mortgage, interest only or even a 30 Year fixed rate, consider refinancing to a 15 year fixed rate. This will save you on interest and will encourage you to pay off faster.

If you don't own a home, I would think about getting into one. If you are smart about the home buying process, you should be able to find a house payment that doesn't exceed 25% of your monthly income or less. Try and stick to a 15 year fixed rate mortgage if you can, you don't want to be tempted to take your time to pay the place off. The goal is to be without any debt payments in as little time as possible. You're almost there! Maintain that intensity that brought you this far and get it done!

If you elect to go ahead and buy a home, we have read some good things about the FHA loans which are good for those with bad credit, no credit or unconventional credit, which might be the case since you've just gotten your debt taken care of.

Baby Step #7: Build Wealth and GIVE!

All of the hard stuff is over. Now it's time for the fun part! Enjoy your life! Set some savings aside and buy that awesome new(ish) car that you've wanted. Take your spouse on a celebratory vacation to whatever tropical paradise suits your fancy. Or, use your newfound financial freedom to build even more wealth.

You can invest in rental property and become a landlord or start your dream business. You can max out your retirement saving and live in comfort for your golden years or just give the grand-babies a full ride to their school of choice.

What many wealthy people say is the absolute most fun you can have with your money is by giving it away. Share your blessings and become an inspiration for others to take the same path and become financially free. It's all up to you now. As Dave Ramsey has said numerous times: "Live like no one else so that later you can live and give like no one else."


This concludes the Baby Steps as explained by Dave Ramsey. My explanations were by no means in depth or exhaustive. As I have said in the beginning of this post, seriously, get your hands on a copy of the Total Money Makeover and start listening to Dave's podcasts. He even has a radio show that you can catch every weekday. I strongly, strongly, STRONGLY recommend hearing the "Debt Free Screams" and the thousands of testimonials of people who have followed the guidelines listed above. This is not a gimmick. When you put these steps into practice and stick to them you will get out of debt. You can do it! I believe in you!

I hope that I've encouraged you and given you some sort of inspiration to get yourself into a place where finances are no longer a source of stress. This is your life and you will take control of it!

I hope that you have enjoyed this post. If you have any questions or comments please give Shelly a message. If you have questions about what you have read here, let her know and I will get back to you as best as I can. Have a wonderful day and a prosperous year!

Shelvina E
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