Since it’s now January and a lot of us are making or have made New Year’s resolutions, I want to talk about one resolution that many people decide to pursue, and that resolution is … surprise, surprise… getting out of debt. Of course, if you know me at all, you know that I’m all about getting out of debt and staying out.
But hey, there’s more than one way to become debt free. Some are intelligent and well thought out, and some are flat out stupid. You need to be consider the consequences before you pay off your debts.
Today I’m going to stick with the more stupid side of things and warn you about some of the common techniques that people use to try and get out of debt that can (and probably will) put you in a worse position than where you started.
So let’s get this not so smart party started. Here are 5 ways you should not try to pay off your debt.
Paying off your credit cards without changing your habits- Paying off your credit cards is a great start toward eliminating debt from your life. But if you don’t practice some behavior modification, you’ll end up in the same boat again later. I always recommend completely ridding yourself of those evil plastic demons of debt. You don’t need’em. If you have them available you will use them again. So shred’em, burn’em, vaporize’em with a particle beam, do whatever you have to do to get them out of your life.
Take out a home equity loan- So let’s see here, you want to get out of debt so you borrow money on your home to pay off your credit cards, your car payments, your Ginsu knife collection, etc. Now you’ve put your home on the line and all you’ve done is transfer the debt from one place to another. And guess what? Once again you didn’t change any habits so you’ll probably end up taking on even more debt now that you got those others “paid off”.
Filing for Bankruptcy- It’s very rare that anyone is in debt deep enough that they can’t work their way out of it. Filing bankruptcy can be a bad mojo that will follow you for as long as 10 years. It can keep you from being able to rent or buy a home, and these days it can even keep you from getting a job because many potential employers will check your credit score before hiring you. If you’re so deep in debt that you think you can’t get out, find a reputable debt counselor instead of a bankruptcy attorney. Either way can be a tough road, but working your way out of debt with a rational plan is always better than bankruptcy in the long run.
Using your emergency fund- If you’ve had enough financial discipline to save up an emergency fund, then congrats, you’re way ahead of the average Joe. It might seem like a good idea to pay off all or part of your debt with money that’s just sitting idle, but don’t give in to that temptation. That emergency fund is an insurance policy that can keep your finances intact when life inevitably happens. Using emergency funds will leave you exposed and vulnerable. Besides, if you had enough discipline to build an emergency fund you can master the discipline to get your debts paid off over time.
Taking money out of your IRA or 401k- This one is extremely bad because not only does it not help you develop any financial discipline or change any habits, but you also get penalized for withdrawing that money. Want to pay off $20,000 in debt? You’d have to withdraw almost $31,000 to cover taxes and penalties to do it. Plus you would be robbing from your future to pay for present problems. In the long run, taking money out of retirement accounts to pay off debt can actually end up costing your hundreds of thousands of dollars (read “401k’s and Drunken Sailors” to find out how).
There are a few good ways and a lot of bad ways to try to get yourself out of debt. The best ways always involve a change in priorities, a change in habits, and a change in mindset. The bad ones don’t and will usually end up biting you in the behind eventually.
So as you resolve this year to start down the road to debt freedom, remember these three characteristics I just mentioned and don’t lose your brain and fall into one of the five traps.
Your future will thank you for it.
My name is Dr. Jason Cabler I’m a practicing dentist and Christian personal finance blogger from Nashville, Tennessee. Go ahead, visit my Celebrating Financial Freedom blog and see what the fuss is all about.
My name is Derek, and I have my Bachelors Degree in Finance from Grand Valley State University. After graduation, I was not able to find a job that fully utilized my degree, but I still had a passion for Finance! So, I decided to focus my passion in the stock market. I studied Cash Flows, Balance Sheets, and Income Statements, put some money into the market and saw a good return on my investment. As satisfying as this was, I still felt that something was missing. I have a passion for Finance, but I also have a passion for people. If you have a willingness to learn, I will continue to teach.