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unsecured debt

Which Debt Should You Pay Off First? It’s NOT What You Think

By //  by Kevin M

Nearly everyone on the web and in the financial press is telling us to get out of debt. Get out so you can save more, so you can retire early, so you can improve your credit score, so you can just get out of debt. But what if you have several debts—credit cards, a car loan, an installment loan (or two), a student loan and a mortgage. Which debt should you pay off first? Or does it even matter?

I think it does, in fact, I think it matters a whole lot. Some loans are just more…dangerous…than other loans, and need to be paid off sooner. This is especially true if you’re struggling financially. You should make a priority to pay off the loans that have the greatest potential to cause you the greatest problems in the event you can’t pay them any longer.

What Debt Pay First

Which Debt To Pay First?

Here’s my attempt at establishing that priority, and the reasons why for each. Feel free to disagree!

1. Car Loans

Most people start paying off debt with their credit cards, but I disagree. A car loan is a secured loan, which means that if you stop making the payments for any reason the car will be repossessed by the lender. If you hit on hard times and can’t pay your bills, the last thing you need to have happen is to have your car taken away.

You need your car to commute to your job, to run your business and to live your life. If it’s gone, you’re ability to pay your other debts will be gone with it.

Maybe this is just my thinking, but a car loan is really the most “strategic debt” that you have. A debt chain reaction will be set off if you lose your car, one that you may not be able to recover from any time soon. Get your car free and clear as soon as you can, then you’ll have time to deal with other debts.

2. Other Secured Loans

These loans could be debts taken to buy furniture, household appliances or to replace major components of your home, like a furnace or central air conditioner. And like a car loan, they’re secured and that’s why you want to pay them off ahead of unsecured debts. If you fail to make your payments for any reason, the lender will be able to take the collateral from you.

That may not be a problem if the collateral is furniture or a boat—you can live without those. But if it’s your computer that you use for business, or your air conditioner in the summer time, life will get ugly in a hurry.

These are worthy of being paid off right behind your car loan.

3. Student Loans

This is a sticky subject. Because they tend to be large and generally carry low interest rates, most people prefer to leave them alone and take every one of the ten, 15 or 20 years they have to pay them. But that’s not always the best course of action.

Though we may not think of it this way, it is a reality that student loans are unsecured debt. Even though they’re typically the size of car loans or even larger, there’s no asset beneath them that can be sold to pay them off if you get into financial trouble. Worse, they can’t be discharged in bankruptcy. In fact, except under certain very limited circumstances, you can’t settle them with the lenders in the way you might be able to with credit cards. For that reason, paying off your student loans deserves a higher priority than for credit cards.

4. Credit Cards

This is everyone’s favorite payoff! And why not? Credit cards are really annoying, at least when it comes time to pay them! But at the same time they’re aren’t as threatening as any of the above loans if you can’t pay them.

Sure, credit card lenders have remedies they can pursue against you, like nuking your credit, torturing you with collection calls, charging default interest rates and implementing judgments and garnishments. But they can’t take away your livelihood or kick you out of your home—that lowers them in the pay off hierarchy.

Usually, you can also settle your credit card accounts for less than what you owe, and there are even agencies—some of them non-profits—who will help you arrange this. In addition, though lenders can seek legal remedies against you, they often avoid going too far lest they push you into bankruptcy protection. Credit card lenders don’t do very well when that happens.

The popular “debt snowball” method really is the best if you have multiple credit cards. Pay off the smallest one first, then work your way up to the bigger ones. Each little one you pay frees up more money to pay off the bigger ones.

5. Mortgages

The reason for putting mortgages in last place? It’s typically your biggest debt and it will take many years to pay it off early. Also, even when you start paying it off, your mortgage won’t go away any time soon. Your house payment will remain fixed until the mortgage is completely paid off, as in zero balance. Since that will take many years to accomplish, the mortgage should be a low priority.

[Is it better to rent or own a home? <–What do you think?]

A couple of other things to consider in connection with a mortgage, one being that the payment is paying for something tangible—the use of your home. You’d have a rent payment if you didn’t own your home, so it’s not like the mortgage payment is something extra or extravagant. There’s also the tax benefit of having a mortgage. Since you get a break on your income taxes as a result of having your mortgage, paying it off should be less urgent than paying off debt that has no tax advantage.

Finally, if you plan on selling your home in the foreseeable future, there’s probably no point in working to pay down the mortgage. It will be paid off when you sell the house.

Is this debt pay off priority a bit unconventional? Probably. But when it comes to personal finance, I think it’s always worth looking at things from outside the box.

What to you think the priority should be when it comes to paying off debt?

photo credit: Freedigitalphotos.net

Filed Under: Debt Management Tagged With: a debt, car loan, credit, credit card, credit score, debt, debt credit cards, debt pay, debt to pay, Economics, finance, financial economics, financial ruin, Loans, mortgage loan, pay first, pay off debt, Personal Finance, secured loan, starting pay, unsecured debt

What Debt Solutions Are Available?

By //  by guest

The following is a sponsored post on behalf of Debt Advisory Centre, exploring three debt solutions available to you (depending on your financial situation).

What debt solutions are available?

If you’re in debt, and you’re wondering what help is available, you may be glad to know that there are a variety of flexible solutions tailored to meet your needs.

Each debt solution is different, and would be appropriate for people dealing with different levels of debt. Here, we’re going to take a look at just three of the debt solutions available.

Debt Management Plan

This may be right for someone who cannot afford to keep up with their debt repayments as they agreed to in the first place, but who can repay their debts within a reasonable time frame (under different terms though).

A debt management plan works by asking an individual’s unsecured creditors to agree to changes to the original repayment plans – they may agree to accept reduced monthly payments and they may agree to freeze/reduce interest and charges on the borrower’s debt. It’s important a borrower is aware, though, that their creditors aren’t obliged to agree to any changes to the original repayment agreements.

What’s more, if they arrange to repay their debts over a longer period of time, they may pay more in the long run.

IVA (Individual Voluntary Arrangement)

This is a formal debt solution between a borrower and their unsecured creditors. It’s only available to people who cannot afford their repayments as they stand and can’t afford to repay their debt within a reasonable period of time.

A borrower must be able to commit to making regular reduced payments for the duration of the agreement (usually five years) before it can go ahead. If they can do this and the IVA goes ahead, their creditors will agree to write off the part of the debt the borrower can’t afford to pay back once the IVA reaches a successful conclusion.

An IVA will affect an individual’s credit rating – which could have an impact on the cost and/or availability of credit for six years. If the borrower is a homeowner, they may be required to release equity during the final year of the agreement. This money will be used to repay more of their debt.

Debt Consolidation Loan

This involves taking out a new loan and using it to repay your existing unsecured debts (in one go). This can make a borrower’s finances easier to manage and make it easier for them to keep on top of their repayments. If you’re thinking of taking out a debt consolidation loan, you may wish to arrange to repay it over a longer timeframe than your original debts – which can lower the amount you are required to spend each month.

[editor’s note: this is a popular item when it comes to student loan repayments]

Just bear in mind that repaying a debt more slowly can add to the overall cost, due to interest. A debt consolidation loan wouldn’t be appropriate for a borrower who can’t consolidate all their unsecured debts and/or has an erratic income.

Please bear in mind…

This article is not designed to provide a comprehensive guide to an individual’s options when it comes to clearing their debts. If you’re thinking of entering a debt solution, you should speak to a professional debt adviser before committing to anything.

Any debt solution comes with disadvantages alongside its advantages – it could affect your credit rating, for example – so it’s important you are aware of these before taking the next big step to becoming debt free.

photo by jscreationzs

Filed Under: Debt Management Tagged With: bankruptcy, bankruptcy alternatives, credit, debt, debt advisory, debt consolidation, debt consolidation loans, Debt Management, debt management plans, debt repayment, debt settlement, debt solution, debt solutions, finance, flexible solutions, individual voluntary arrangement, insolvency law, loan, repaying, secured loan, unsecured debt

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