Debt is a problem many people struggle with and if left unresolved, can easily spiral out-of-control.  While some debt is a part of life nowadays, effectively managing your debt can provide great benefits should you need to finance a car or are looking to purchase a house.  The Credit Union of New Jersey has some tips for managing your debt and help you achieve financial independence.

What is Debt?

Debt is money that you have borrowed with the agreement to pay it back in full, oftentimes with interest.  Some common types of debt are mortgages, car loans, personal loans, or credit cards.  Debt is often organized into different categories:

• Secured debt – debt associated with some sort of collateral that can be taken back for failure to repay the debt (car loan, mortgage)
• Unsecured debt – debt without any collateral (credit cards or personal loans)
• Installment credit – debt where repayment terms and amounts are fixed (mortgage, student loans)
• Revolving credit – debt where repayment amounts may vary depending on amount of debt (credit cards, cash advances)
• Fixed interest rates – interest rate does not change over the life of the debt (car loan, mortgage)
• Variable interest rates – interest rate can change depending on size of the debt or a failure to pay debt on time (credit cards, payday loans)

You may have heard that there is good debt and bad debt; while it may seem that any debt is bad, this is actually true.  Good debt is debt that directly affects your overall net worth or helps generate you value, such as a mortgage; good debt is also generally associated with some type of collateral.  Bad debt does not help you generate value and oftentimes is associated with credit card purchases for expendable items with no long term value, such as gas, food, or utilities.  For example, if you pay a $100 electric bill on a credit card rather than a debit card, you may be paying $120, $150, or even $200 for that same bill once interest accrues.

The Warning Signs

It can sometimes be hard to judge how we stand financially; it can be even harder when we don’t want to acknowledge reality.  Here are some general warning signs that you might be in trouble with debt:

• Spending more than you earn
• Skipping payments on some bills
• Making minimum payments on credit cards
• Maxed out credit cards
• Unsure about what you owe
• Thinking about filing for bankruptcy
• Creditors are calling you about late bills

Some more specific signs of being in debt may also include:

• Living paycheck to paycheck
• Debt to income is more than 36%
• Credit card balances exceed 10% of income
• You have no emergency fund (3-6 months)
• No money set aside for retirement

If some of these apply to your financial situation, you may wish to speak with a financial planner or financial counselor for help.

Credit Score and Report

While debt is scary, not all debt is bad.  Debt has a large impact on your Credit Score, which many places use to determine finance options for important purchases such as apartments, homes, cars, and furniture.  Good debt can help boost your credit score.  A higher credit score can help you secure low or no interest payments for loans and may allow you to qualify for higher loan amounts.  Be aware that most places use the FICO credit score when determining loan parameters, but many popular credit management companies, like Credit Karma, use the VantageScore, which takes into consideration other factors than the credit bureaus; these scores are often different so be sure to know your FICO score when making large purchases.  Your credit score is made up of the following information:

• 35% Payment History
• 30% Amount Owed
• 15% Length of Credit History
• 10% New Credit
• 10% Credit Mix

You can find out more about your credit score and all of the debts you have through your credit report.  A credit report is a record of all your credit-related activities from three major credit bureaus – Equifax, Transunion, and Experian.  It lists any credit-card accounts or loans you have, their balances, and how regularly you make your payments.  It also shows if any actions from creditors has been taken against you.  You can receive your credit report free each year from each of the three credit bureaus; if plan properly, you can get your credit report 3 times a year for free!

Too Much Debt?

So what are the warning signs for having too much debt?

• Spending more than you earn
• Making the minimum payments on credit cards or having maxed out credit cards
• Unsure about what you owe
• Arguing with your family or loved one about money
• Debt to income ratio is more than 36%
• You have no emergency funds (3-6 months income)
• Little or no retirement savings
• Credit card balance exceeds 10% of income

If you have too much debt, what can you do to change your financial situation?  First and foremost, you have to make a plan.  Sit down and write out a budget, including your monthly income and expenditures.  This will help you visualize where you are spending money on unnecessary things, such as a $5 coffee every morning or eating out multiple times in a week.  Once you can identify areas where you can save money, put that money away, such as in a savings account, so that it can grow, or apply it to one of your debts to pay it off quicker.

Another way to help get out of debt is to increase your income.  Whether it is selling items from a personal hobby or unused items around the house, downsizing a car or home, or getting a part time job, being able to increase your income, if not to pay down the debt, but at least to provide more financial security is important.  Additionally, set SMART financial goals for yourself – Specific, Measurable, Adjustable, Realistic, Time-Oriented.  Lastly, never give up; oftentimes people give up too early on their efforts to become debt free.  It may not be fast or easy so remain committed to your financial plan and the reward will be more freedom with your money.

More Information

Debt can be a tricky thing to recognize and manage.  If you have any questions about your personal financial situation, you can reach out to Amanda Griffith from the Credit Union of New Jersey for a free financial assessment.  For help with making a financial plan and budgeting, among other things, you can download a copy of the handouts from the presentation at https://www.njstatelib.org/wp-content/uploads/2019/12/Debt-Management-Handouts.pdf.  You can view a recording of the webinar on our YouTube channel at https://youtu.be/eNT_RZd8dv4.