A couple of ways you can avoid being absolutely steamrolled by your debts

As someone who discovered the world of financial planning relatively early in life, I have managed to keep my debts to a minimum. As time goes on however, I know that financial debt becomes a part of life.

You go to university; you have a HELP or HECS debt. Your car breaks down; you take on a car loan to buy a new one. You want to buy a house; you’re going to have to get a home loan. You buy a bunch of clothes that you don’t really need; you sign up for weeks and weeks of Afterpay repayments. It’s unavoidable. We are only human after all.

If the damage is already done, we need to establish an escape strategy. While there are many different tactics which have been argued to work the best, what’s important is to do what works for you. What are you motivated by? What is achievable?

Here are a couple of options: –

Prioritising by Interest Rate

This strategy, sometimes known as the Avalanche Method works by paying off your debts in descending order of interest rate. This usually means paying off credit cards and car loans first and finishing with very low interest or zero-interest loans like investment property loans and HELP or HECs debts.

Logically, this approach makes sense. You spend less on interest and if you can stick with it, it will pay off (literally 😉) – but that can be the hard part.

Prioritising by Balance of Debt

This strategy is all about paying off your debts from smallest balance to largest balance regardless of the interest rate and is often referred to as the Snowball Method. Now, please don’t go and pay off your HECs debt of $10,000 first, even if it is your smallest amount owing. Your HECs debt is pretty much interest free, apart from a small amount which is added to your loan each year depending on the indexation rate.  Take advantage of this. Don’t worry about it!

The purpose of this method is to offload the smaller debts that you can, quickly, so that you’ll be motivated and have the financial capacity to tackle the bigger ones later on. Pay your friend back that $50 you borrowed last week first (that’s not really financial advice, I’m more just saving your friendship). The point is, pay off the smaller things first. If you’ve only got $2,000 more owing on your car loan and you know you can pay that off in the next month, focus on that. It’ll feel good to get that off your plate and you’ll have the motivation to work on the next debt.

There are pros and cons to both of these options. Prioritising by interest rate doesn’t eliminate that overwhelming factor but does save you money on interest in the long term. Prioritising by balance can be easier to stick to because of its rewarding nature but you still incur the extra interest charges.

Unfortunately, like a lot of things in the financial realm there isn’t a golden rule or ideal option for everyone – you just have to find what works for you. Whatever you do decide to do, stick with it. If there’s one thing I can guarantee, it’s that your debts won’t go away on their own. You need a tactic.

As always if you want to have a chat or have a question, feel free to reach out. We would love to hear from you!

This post is from our resident Paraplanner Holly Hellinga, check out her details in the About Us section.

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Posted in: Holly Hellinga, Budgeting