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21 Apr 2014

How Can You Pay Off Debt and Avoid Bankruptcy?

As a Colorado bankruptcy attorney, I hear this question more than many others. How can bankruptcy be avoided? But before a client even lands in my office for a consultation, another question might have been asked: How can I pay off all this debt? Well, there is no silver bullet, no easy answer that won't require a disciplined approach, but when one is willing to make the sacrifices there is usually a way to get that debt paid down.


According to a recent article by the Motley Fool, "9 Ways to Pay Off Debt," you can throw a lot of energy at your personal debt but it won't just disappear. With annual rates of 20 percent or more, compounded monthly – debt hovers over some individuals like a "carrion bird." As the article suggests, it cannot be wished away but it can be paid down with a lot of determination, some debt-fighting resources and possibly the goodness of a few wealthy relatives.

Here are some of the Motley Fool's suggestions:

Pay more than the minimum due.

This is an important habit, according the Motley Fool. The minimum payment is only about 2 to 3 percent of the balance due, and it is clearly calculated in the bank's favor so they can get more interest. This means less cash in your pocket. Don't fall for it. Instead, pay as much as you can each month even if it means eating at home or bringing your lunch to work. Be willing to make a few sacrifices and you will have the means to increase your payments against debt. When you see that balance going down every month it will be an incentive to keep it going.

Snowball your credit card debt.

Figure out which credit card has the lowest interest rate, and then transfer as many balances to that card as possible. If the entire balance cannot fit onto one low interest card, pay at least the minimum due on all cards except one, then make the largest debt payments on that one card. When that balance becomes zero, move to the next card and tackle it the same way.

This "lather, rinse, repeat" method is also known as "snowballing" because as the debts decrease the amount of money you have to pay them off increases. This keeps happening until all the debt is wiped out. Many people take advantage of promotional offers that banks use to entice them into a line of credit. It may be worth considering, especially when you're moving an 18% card down to 5.9%, just as long as you apply the money saved on interest into paying more against the principal. Just take the time to examine each offer closely and look out for "hooks." You may need to switch your balance again after the introductory period expires, resulting in a higher interest rate than you are paying now.

Cash out your savings account.

Many people believe that having a savings account is more important than getting out of debt. Newsflash: it isn't. Savings accounts are great, but keeping money in a low-yield account is never smarter than paying off high-interest debt. Think about it. Draining your savings account may seem scary, but if it saves you a few hundred a month in credit card interest isn't it worth it? The higher the interest rates are on your credit cards, the more attractive it becomes to choose repayment over investment. The same concept applies to investing in your 401(k). If you are trying to reduce your taxable income and nearing retirement it makes sense to keep investing, but if you're young and your income isn't that high yet, pay off your debt before increasing your investment in retirement accounts.

Ask for a loan from family and friends.

This might seem a little uncomfortable, but chances are you will get a much more favorable interest rate from family members than you would from a bank. They might even tolerate a late payment or two. But it is very important to keep your word and put your agreement in writing. The last thing you want to do is destroy an important relationship over money. Loans between family members can quickly become a source of hard feelings, so you must remain scrupulous about adhering to the payment schedule.

Get a home equity loan.

If you own your home and you have accumulated enough equity, it might make sense to get a home equity loan or home equity line of credit (HEL). This strategy allows you a few ways to save. First of all, you will trade your high interest credit card debt for a 6% to 7% interest rate. Secondly, if you itemize deductions on your tax return, home equity interest counts as mortgage interest. The only caveat with this approach is you cannot look at this loan as a windfall, or as an excuse to continue living beyond your means. Only use the proceeds to pay off debt, and resist the temptation to accumulate more debt. Many HEL borrowers fall into this common trap and then find themselves paying off the HEL on top of new credit card debt. The trick is to pay off the cards and keep them paid off until the home equity line is repaid.

For more tips on paying off debt to avoid bankruptcy, look for our follow-up article later this month.

Photo Courtesy of Stuart Miles / FreeDigitalPhotos.net

Stephen H. Swift

Managing Attorney
Law Office of Stephen H. Swift, P.C.

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