When I see this word I think deficient, demeaning, sub-par. The federal government has been building one for years, and when I looked this early morning on Labor Day, the total is $11,812,407,462,000. Just last year, the debt clock actually ran out of numbers and had to be expanded in order to fit two more zeroes.
I am not here to talk about politics, just about facts. And the fact is: America is in a huge amount of debt. As a frugal person, debt generally feels like a 100-pound ball and chain dragging me down. In fact, up until 1833 in the United States, debtors’ prisons were common. Could you imagine that, going to prison for your debts?
My Personal Debt
It may come as a surprise to you, but I also have debt. I came out of four years of college with $31,325 of debt and have paid this down to $11,000 in just three and a half years. I consider it a very wise investment (although when you think about it, I could now have an extra $20,325 socked away…but from what kind of job without a college degree?). Here was the breakdown:
- Private student loan with co-signer: $6,000 at 9% interest
- Loan from Grandfather: $4,000
- Stafford Loan: $2,625 at 4.7% interest
- Stafford Loan: $3,500 at 4.7% interest
- Stafford Loan: $5,500 at 4.7% interest
- Stafford Loan: $5,500 at 4.7% interest
- Perkins Loan: $4,200 at 5%
Attacking My Debt
I remember sitting in my exit interview with the financial aid people at college, and looking at my debt folder for the first time. If I paid the minimum amounts each month, then I would also pay an extra $15,000+ in interest and have to make payments for over 15 years! I knew in that moment that I was not going to allow that to happen.
I began by consolidating all of the Stafford Loans in the summer of 2005, when the interest rates dropped. By doing so, I was able to have one loan of $17,125 with a fixed interest rate of 2.625%. I was fortunate enough to have my federal loans subsidized by the government while in college and during the six month grace period you get after graduating, so my interest payments were kept up and did not have the chance to compound while I was still studying and learning what an interest rate was.
I made four different payments at once when I started my first job that totaled approximately $447 per month. Since I was living very cheaply and with no car payment (I had paid for my used car in cash), these payments were not a problem. Each year I was sent an interest statement from each of these lenders that I could deduct from my income tax returns. After two years, and seeing the $1,000+ I had paid in interest, I decided to pay off the higher interest loans. I took money out of my savings and paid off the rest of the private student loan at 9% interest, and the Perkins loan. Next, I paid off my grandfather. With all of these other payments gone, I began to concentrate more on my consolidated Stafford loans. Instead of paying the minimum $117 per month, I doubled the payments to $250 per month, which was still a savings for me from the original $447 per month I was paying before. After 36 months, or three years, of consecutive payments, my interest rate dropped by an entire percent!
Now, my loan is currently at $10,277 with 1.625% interest. Between now and the wedding, I am keeping the payments at $250 per month, mainly because the interest rate is so low. After the wedding, the debt will be attacked with a vengeance.
Different Strategies to Attack Debt
The strategy that I used above is a hybrid of a few debt pay-off strategies. One is Dave Ramsay’s debt snowball reduction plan, which I highly recommend (you can purchase the book in my right sidebar —Totally Money Makeover). Basically, you pay the minimum on all of your debts, and then any extra money you can find you throw towards the smallest debt that you have. Once that debt is paid off, then you throw all of the money that you were using to pay that debt off (its minimum payment, as well as the extra money you found to pay it down), and pay this onto your second smallest debt. Each time a debt is paid off, the amount of money you then use to pay the next in line grows, thus increasing the speed of paying off your debts. By doing this approach, your progress in the beginning is quick, and you stay motivated to continue the hard work ahead.
I call my payoff strategy a hybrid because not only did I start with the smallest debts first, but it turned out that my smallest debts (the $6,000 private loan, and the $4200 Perkins loan) had the highest interest rates. When using this strategy, you continue to pay the minimum amount due on all of your debts, but then line up your debts from the highest interest rate to the lowest, and attack from the top down. This potentially will save you money in interest over the amount of time that it takes you to pay off your debts.
A third strategy to paying off debt that I will mention here (there are many strategies out there) is to consolidate your debts to a lower interest vehicle. For example, if you currently have a debt of $4,000 on a credit card with an interest rate of 14% and you are paying the minimum only, it will take you 25 years to pay off, at an extra interest charge of $6,136! Transfer this balance to a new credit card with 0% interest on balance transfers for 12 months. Then increase your monthly payments to approximately $333 per month so that you can pay the credit card debt off by the end of those 12 months. This would potentially save you $6,136 in interest and 25 years of payments! Play around with this debt calculator to determine what best works for you.
PAYGO—For You and the Government
The US government used to have a rule from 1991-2002 called PAYGO, which basically meant that they could only spend money which they had coming in the door. Furthermore, if they wanted to increase spending, they had to come up with spending offsets through canceling other programs, bringing in more revenue, or spending less on other programs. Unfortunately this rule did not last, although there is discussion of bringing it back to try and get the deficit under control.
For you and me, PAYGO is a great concept to use. While we are paying off our debts, PAYGO will ensure that we do not incur more debts, and that we have the money to put towards payments. After becoming debt-free, it will ensure that we do not find ourselves back to where we were: paying interest on the past.
Now that I am finished writing this article, the US deficit has ballooned to $11,812,594,900,000. Hopefully this will not be true for us, because we are paying down our debts instead of growing them.
Please share with me your own debts, questions you might have, and strategies that you are using to pay them down. I would love to hear from you!