CGL Financial

Debt Planning

Debt Planning

What is Debt Planning?

"Never a borrower nor lender be," So the saying goes. "Sometimes you might have to go without, but everything you own should be paid for upfront." As quoted from any parental handbook.

Counter this with "It takes money to make money" If you didn't already have money then the next best thing was to borrow some and put it to work to make some more. Mismanaged debt can cause all sorts of problems. There are two kinds of debt, bad debt and good debt. To put it simply, good debt is for a purchase that will increase in value or create an income in excess of the cost of borrowing.Bad debt is borrowing to purchase something that will fall in value or provide little to no return. Good debt pays off by increasing wealth while bad debt carries the cost of reducing wealth.

Good Debt

  • Mortgage - Property should appreciate over time and fulfills a need for shelter. If purchased as an investment, it can p rovide income and eventually capital gains when it is sold.
  • Investments - Stocks, bonds and mutual funds provide opportunities for income and growth. Investment income such as capital gains or dividends has certain tax advantages. (The interest cost of borrowing may also be tax deductible depending on the type of investment return expected.)
  • Education - In general, the person with a trade ticket, a college diploma or university degree will wind up with a higher paying job and more career choices.
  • Vehicle - If the vehicle is necessary, an economical vehicle is purchased to suit the need. If the vehicle will be around long after the loan has been paid, this may be considered good debt.

Bad Debt

  • Vacation - A vacation is an event that should be planned and saved for in advance as part of budgeting the household income.
  • Credit card debt - Most purchases charged on credit cards are for consumer items such as clothing, restaurant meals, and even groceries. These items should be paid for in cash.
  • Vehicle - If the loan will exceed the life of the vehicle or the vehicle chosen is extravagant in relation to need, this would be considered bad debt.

Did you notice that a vehicle purchase could be good or bad?

What is the best way to get rid of or avoid bad debt? Can bad debt be converted to good debt? Should a person think about borrowing to increase wealth?

Proper debt counseling and planning can bring clarity to your current situation and save you thousands of dollars in the process which can only increase your net worth down the road.

Ten Tips to Reduce Debt

  1. Have a plan and set some realistic goals. OK, I know this sounds way too simple. But the fact is reducing debt is simple but not easy. It's so simple that nobody does it! It's time to get back to basics and set some realistic goals. Reducing debt takes discipline and it starts with a plan and goals. Make sure your goals are specific and they have a definite timeline.
  2. Know where you spend money and start living within your means. Studies after study shows that wealthy people either avoid debt or if they use debt, they use it wisely. Wealthy people also know where their money is going because they have a means to track spending. My advice is to keep it as simple as possible to budgeting and tracking is easy. The harder it is, the less likely you will do it. For me, I use one credit card for as many of my expenses as possible. That way, at the end of each month, I just need to go to my credit card bill to know how much I am spending. If you use cash, debit and multiple credit cards, it will be much more difficult to track.
  3. Go on a 'cash diet'. It's time to start limiting your spending. Take your credit cards and freeze them in a bag of ice or better yet, but them up and stop using them if you can't pay off the balances monthly. It's OK to keep a low interest rate card for emergencies, but you probably don't need all the different store cards.
  4. Just say no. Last week I went into Sears and the cashier tried very hard to get me to open up a Sears account to save $10. As enticing as it might be, you are more likely to control your debt and spending with fewer cards.
  5. Pay off high interest debt first. Many times, I have seen people with different sources of debt and their strategy is to pay off the smallest ones first. Or they want to pay off the one they use the most first. My advice is to pay down the one with the highest interest first. In fact, pay off high interest debt and cut up those cards. There are too many lower interest alternatives. Be smart - paying high interest means less money in your pocket and more in someone else's pocket. Pay off high interest debt first.
  6. Consolidate debts to make paying down debt easier. There are so many ways to consolidate debt. You could use a line of credit or a low interest credit card. The key to consolidating debt is to make sure the vehicle you consolidate with has a lower interest rate than the debt you are currently paying. Also, once you consolidate the debt, make use to cut up some of the old credit cards.
  7. Don't have too many credit cards. Look through your wallet or purse. How many credit cards do you have? I've seen some people carry over 30 different credit cards. Some people think prestige or status comes with the number of credit cards you have but studies suggest that more credit cards often leads to more debt. My advice is to stick with 2 or three credit cards and focus on the popular ones like VISA, Mastercard or AMEX. Go with low interest versions if you keep balances. The fewer cards you use, the easier it will be to collect affinity points in a meaningful fashion. People who collect too many different types of points will have a more difficult time getting to meaningful levels.
  8. Stop using cash. Have you ever gone to the ATM machine to take out $100. A week later, you are surprised at how little cash you have? Using cash entices spending and it is harder to track cash spending. If you started to keep receipts for things you pay with cash, you are likely to be very surprised how easy it is to spend cash.
  9. Get a part time job. I guess the point here is to increase your income so you can use that increase to help pay down your debts. This might mean asking for a raise or a promotion or just going out to get a part time job for a while.
  10. Don't be afraid to ask for help. Having more options could help you to clarify, organize your ideas and most probably find some strategies to resolve your situation.

Additional Reading

  • Collection Agencies - What You Should Know   Read More
  • Warning Signs of Potential Debt Problems!   Read More