Step 1: Know your current financial situation. If you are like many, you may not know how much you spend and what your net income is every month. It’s time to change that. Take some time and pull up your bank statements for the last 6 months and get an idea of how much you bring in and how much you spend in an average month. There are apps out there that can help you automate this process.

Step 2: Stick to a budget. It can be difficult to understand where your money is going every month. That is why I use Personal Capital. Personal Capital is a web-based app that allows you to track your income and expenses by linking your Bank, Investment, and Credit accounts to import all your financial transactions. It also allows you to set and track a monthly budget to help you reach your goals. The best part is it’s free, so take a moment and try using this app to help you set up and stick to a budget. Having all your financial transactions in one place allows you to easily see how much you have left for the rest of the month.

Step 3: Create and build an emergency fund. This safety net will help you in an emergency. This will help you avoid debt in case of an unexpected expense. It may be the difference between whether you make your rent/mortgage payment or not. Saving an emergency fund can be done gradually over time. Pay yourself first, is a method where you create an amount in your budget for your emergency fund. This way before you spend any of your income for the month you have already set aside cash in your emergency fund.

Step 4: Improve your credit score. This is important because improving your credit score can allow you to:

  1. Reduce the cost of debt through lower interest rates
  2. Increase the chance of loan approval
  3. Improve the chance of lower car insurance rates
  4. Avoid security deposits on utilities

One extraordinarily helpful app is Credit Karma. Credit Karma provides info on what your credit score is currently and what you can do to improve your credit score.

Step 5: Reduce finance charges. One trick is to use promotional offers from credit card companies to reduce or eliminate finance charges on current debt. One example would be to transfer high-interest credit card debt that you have over to a credit card with a 0% promotional interest rate for 12 months. Most of the time there is a small fee based on the total amount transferred. This can reduce the amount you pay in finance charges for the next 12 months allowing you to pay down your debt more quickly. 

Step 6: So, which debt do you pay first? Most people who have debt, have multiple balances. Take some time and list out all of your debts along with the minimum monthly payment and the interest rate for each balance. If you have multiple balances, here are three approaches that may help:

  1. The snowball method – this is where you pay down the smallest balance first. This may not be the fastest method but you start to see progress quickly.
  2. The avalanche method – this is where you start paying the highest interest rate first, even if the balance is large. This way you reduce the overall amount of debt you need to pay off.
  3. The cash flow index (CFI) method is the optimal approach to paying debt quickly. This method focuses on cash flow. For this method, you take to the total amount of the loan and divide it by the minimum monthly payment. An example would be $6000 of credit card debt with a minimum payment of $120 a month. In this case, the Cashflow index would equal 50. $6000/$120= 50 The lower the number the more important it is to pay off the debt. The cash flow index looks at the efficiency of the loan. The higher the number the more efficient the loan. A CFI of 100 or higher is an efficient loan. A CFI of 0-50 is dangerous a should be paid off ASAP. You should be cautious of a loan with a CFI between 51-100. These loans are somewhat efficient but are not a good use of cash flow. A CFI of over 100 is the freedom zone and should probably be kept as it is an efficient use of cash.

Step 7: Increase your income. Reducing expenses is helpful to start getting your financial situation on track, but it may not be sustainable and may not be enough to quickly pay down your debt. Another solution would be to look at ways to increase your income. This could be done by finding a new job or learning new skills to increase your pay with your current employer. You could also create a side hustle to earn additional income. Once you have increased your income, you can use that additional cash to pay off your debts even faster, which will drastically speed up the debt repayment process. Once you have increased your income be careful not to increase your lifestyle according to your new income. The goal here is to save the additional income to pay off debt and purchase assets.

Disclaimer: I am not a registered investment, legal, tax, or financial advisor. All investment /financial opinions expressed in this post are from the personal research and experience of the owner of this account and are intended as educational material. Although best efforts are made to ensure that all information is accurate and up to date, occasionally unintended errors and misprints may occur. It is very important to do your own analysis before making any investment based on your own personal circumstances. You should take independent financial advice from a professional in connection with or independently research and verify the information that you find in this post to rely upon, whether for the purpose of making investment decisions or otherwise.

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