“What can be added to the happiness of a man who is in health, out of debt, and has a clear conscience?” — Adam Smith
Last week, you discovered how to keep your expenses in check for the rest of your life. That’s a vital discovery and a major accomplishment.
But you still have to deal with any damage that’s already been done, so you can get on with the business of fulfilling your retirement dreams. That’s at least equally important. Fortunately, you’re about to learn a proven method to wipe out all of your debt.
Eliminating debt is the single best thing you can do to decrease your spending. After all, debt means you’re paying money to lenders that you could be using to invest for retirement.
Debt is a cancer that can kill your retirement dreams.
If you don’t have any debt to speak of, that’s super. But read the following anyway. It’s useful knowledge; if not for you, then likely for someone you love.
Debt is a cancer that can kill your retirement dreams. Why? Simple: When you borrow money, you’re paying interest, which is simply paying your money to use someone else’s. This diverts your precious resources to fatten some banker’s bottom line rather than using them to create the life you deserve.
Theoretically, there are only two times you should borrow:
- When your back is against the wall.
- When whatever you’re buying will rise in value by more than you’re paying to finance it.
Things that meet that test include a home, an education or perhaps a business. Things that don’t meet the test include everything else, from cars to clothes to vacations.
Certainly, there are times when we have to borrow: Buying a car, for example, isn’t a “good” debt, but it’s often unavoidable. But whenever you borrow for something that’s losing value, pay it off as quickly as you possibly can.
The key thing to remember: Unnecessary debt is never a good idea, and as we approach retirement, it’s potentially disastrous. It can literally prevent you from realizing your retirement dreams or even retiring at all!
This week, you’re going to learn a system for getting rid of your debt as fast as possible. It’s a system I described in my first book, “Life or Debt,” written about 20 years ago. What worked then will work every bit as well today. In fact, the system you’re about to learn has been used by debt counseling agencies for generations.
How to destroy your debts
There are a couple of popular strategies for tackling debt. The one we’re going to use is “snowballing.” It’s a simple system:
- Step 1: List every debt you have, including the amount, interest rate and required monthly payment.
- Step 2: Choose a single debt to target.
- Step 3: Create a “Debt Destroyer,” some extra money you’ll find in your spending plan that you’ll use to pay more than the minimum on your target debt.
- Step 4: While paying the minimum on your other debts, use your debt destroyer to pay as much as possible toward your targeted debt until it’s paid off.
- Step 5: When your initial debt is dust, take that old debt payment, along with your debt destroyer, and apply it to the next debt on your list.
- Step 6: Continue down your list of debts, combining your debt destroyer, along with the old payments from your paid-off debts, until all your debts are history.
Now you can see why this system is called “snowballing.” You’re using old debt payments — money you’re already used to doing without — to pay off additional debts, one by one.
Using this system can eliminate every debt you have, including a mortgage, in as little as seven years!
Destroying debts: An example
Before we begin, let’s define what a “debt” is. It’s something you owe that you can theoretically stop owing. For example, your mortgage is a debt. But your property taxes aren’t a debt; they’re an ongoing expense. Your Visa bill is a debt. Your utility bills aren’t. Your car loan is a debt, but your car insurance bill is an expense.
The first thing you need to do is to make a list of your debts. Dig those bills out of the drawer, and let’s get started!
A spending plan means choosing where to allocate your limited resources to accomplish your goals as quickly as possible.
Throughout this process, I’m going to give you a sample table first, then a blank one you can fill in with your own real-life info. Let’s go back to the Sample family.
To get a clearer picture of Sam and Sally’s finances, here’s to whom they owe money, how much they owe and how much the minimum payments are.
|Debt Table: The Sample Family|
|Debt||Current Balance||Minimum Payment||Column 2 Divided by Column 3||Debt Rank|
|Sam's Visa card||$2,239||$45|
|Sam's car loan||$7,500||$212|
|Sally's student loan||$11,700||$182|
Your task for this week
Now, how about going through this exercise yourself?
As you review your debts, you may have other stuff included in bill payments. For example, Sam and Sally actually pay more than $917 on their mortgage, because each payment includes extra for real estate taxes and homeowners insurance.
The $917 is just the principal and interest on their loan. And since, as we noted above, insurance and taxes are expenses, not debts, they have to be taken out.
- Find your current mortgage balance and the principal and interest part of the payment by looking at your monthly mortgage statement.
- Get your credit card information from your latest bills. Do the same with student and car loans.
- Rounding the numbers is fine.
Now it’s your turn. Write down your debts. (There’s a worksheet at the end of this chapter.) Include the company or person to whom you owe the money, how much the amount is and what the minimum monthly payments are: in other words, columns 1, 2 and 3.
Next, divide each of your current balances by its minimum payment and write the answer in the fourth column. That gives you the number of payments you have left until that debt is gone.
Now all that’s left is to rank your debts in the order that they’re going to be paid off. The debt with the lowest number of payments remaining is going to rank highest on the list.
Here’s how it looks for Sam and Sally:
|Debt Table: The Sample Family|
|Debt||Current Balance||Minimum Payment||Payments Remaining*||Debt Rank|
|Sam's Visa card||$2,239||$45||50||2|
|Sam's car loan||$7,500||$212||35||1|
|Sally's student loan||$11,700||$182||64||3|
*Column 2 divided by column 3
So, for Sam and Sally, their top priority debt will become the car loan. Then we’ve got a tie for No. 2 on the credit cards, followed by Sally’s student loan and, bringing up the rear, the mortgage loan.
What does your priority list look like? Go back and finish the debt table by ranking your debts.
So far, we have listed all of our debts, and decided which debt we’re going to target first, second and so on.
Ranking debts for pay-off
Before we go further you might have questions about why we ranked our debts this way, and whether other ways of ranking them would have worked.
The system we’re using is designed to keep you on track by giving you the most reward in the fastest time. In other words, we’re going to do the best we can to get you results as quickly as possible, to hopefully motivate you to keep going.
Focusing on debts with the fewest remaining monthly payments means those will be gone quickest, and you’ll see fast results from your efforts. That’s important not only for motivation but also to quickly free up additional money, money you need to wipe out the next debt on your list.
But why not focus on the debts in order of interest rates? Doesn’t it make sense to pay off a 15 percent debt before a 10 percent debt?
Actually, yes, it does. But again, we’re trying to get you out of debt as soon as possible, using the old payments from erased debts to do it. This system will work so fast that the small amount of extra interest you’ll pay won’t amount to much anyway. It’s worth it to give you quick, visible progress.
One more question: What if you want to use a different system, such as paying the smallest debt first, or paying off ones with the highest interest rates first? Would the system still work? Sure. Maybe not as fast, but it will work.
Create a Debt Destroyer!
Now you have a list of what you owe, who you owe and how much the payments are. You decided what order to use to pay off your debts. Now it’s time to create a weapon to destroy those debts! I call it a Debt Destroyer.
The ideal Debt Destroyer is equal to 10 percent of your gross monthly income. You’re going to aim this powerful weapon at the first debt on your list, add it to the existing minimum payment, and pull the trigger every month until that debt disappears.
You’re now likely wondering, “How the heck am I supposed to scrounge up 10 percent of my income every month?” Well, the answer to that question is all around you.
This is the part of the program where things start to get a little more fun, because here’s where we start to take control of our debts instead of allowing them to control us.
In order to set aside 10 percent of your monthly income, the first thing you’ve got to do is figure out how much that number is. So start with how much you make a year. Divide that number by 12, and then multiply that number by 0.10, and you’re there.
For example, Sam and Sally have a combined income of $50,000 a year. So their monthly income is $4,167 ($50,000 divided by 12) and their Debt Destroyer amount is going to be $417 ($4,167 x 0.10).
Where will Sam and Sally find $417 every month?
Well, they can’t find it if they don’t know where to look, and they won’t know where to look until they know where their money’s going now. That’s why last week they came up with a spending plan. A spending plan means choosing where to allocate your limited resources to accomplish your goals as quickly as possible. They added a line to their spending plan specifically for debt payments.
Creating a spending plan doesn’t mean doing without. It means paying attention and setting a few priorities.
When I first started teaching people to destroy debts, the only way to track spending was to use a pencil and piece of paper. These days, however, there are plenty of tools that make it nearly effortless.
With these tools, you simply input your bank account information, and the work of tracking and categorizing expenses is done automatically.
Once you start seeing where your money is going, you’ll find spending leaks that you can plug. You’ll probably also see some things you’re paying for that you can live without.
There are many ways to save without sacrificing your quality of life. You’ll find hundreds in the book that’s free with this course, “208 Ways to Save Money Every Day.” Discover fresh ideas every day at MoneyTalksNews.com.
What if you track your expenses, read about techniques to save and still can’t come up with a Debt Destroyer? Then maybe it’s time to come up with some extra money with a side gig. That’s why we included another book with this course, “108 Ways to Earn Extra Cash.”
The power to destroy your debts is at your fingertips!
Once you’ve created a Debt Destroyer, you’re ready to begin paying off your debts. This is the part of the program where things start to get a little more fun, because here’s where we start to take control of our debts instead of allowing them to control us. Now we’re actually going to see exactly how long it will take to become debt-free!
Let’s revisit Sam and Sally Sample and see exactly how the program is going to work.
They’ve built a $417 Debt Destroyer, and now they’re ready to aim it at the first debt on their list: Sam’s car loan.
Debt 1: Car loan
To refresh your memory, Sam’s car loan has a $7,500 balance, and payments of $212 a month at 10 percent interest.
So far, Sam’s paid about $1,328 in interest, and if he kept paying off this loan by making the minimum monthly payment, he’d pay a total of $2,748 in interest by the time he makes the last payment on this five-year loan.
Instead of another 3 ½ years of payments, the car will be paid for in a little over a year.
But, as of now, Sam’s not going to be making minimum payments. He’s going to start paying $629 every month (his regular payment of $212 plus the debt destroyer of $417.)
And the result? Instead of another 3 ½ years of payments, the car will be paid for in a little over a year. Instead of paying an additional $1,400 in interest, he’ll pay only $400. They’ll own this car outright, and be one step closer to debt-free.
Debt 2: Credit cards
Now that Sam’s car loan is paid off, we’ll turn our attention to the next debt on the list, Sam and Sally’s credit cards.
Sally stopped using her credit card and has been making minimum monthly payments while Sam’s car loan got paid off. When we started the program, Sally’s Mastercard had a balance of $1,845 and the minimum payment on her credit card was $37. We’ll assume that’s the amount she continued to pay while Sam crushed the car loan.
Now, one year later, Sally’s current balance on this card has been reduced to $1,682. But her $37 monthly payment is about to take off, because to that we’re going to add the monthly amounts for Sam’s dead car loan ($212) and the Debt Destroyer ($417).
So now, instead of $37, Sally’s going to be sending checks every month for $666 ($37 + $212 + $417). How long will it take to pay off her $1,682 balance? Less than three months!
It’s only been a little more than a year, and they can already see the light at the end of the tunnel.
In case it hasn’t hit home yet, what you just read is amazing. Before we started this program, Sally was making minimum payments on her credit card. Had she continued on that path, she would have taken 253 months (21 years!) to pay off that card. In the process she would also have paid $2,531 in interest.
Now, thanks to the Debt Destroyer, she paid it off in 15 months, and paid only $327 more in interest.
Needless to say, Sam and Sally are pretty excited about their results thus far. It’s only been a little more than a year, and they can already see the light at the end of the tunnel. They’re really looking forward to wiping out each and every debt they have.
Next, they do the same to Sam’s card. It would take 23 years to pay off his remaining $1,961 balance with minimum payments. But now it’s time to take aim with the Debt Destroyer.
The payment Sam will be sending in every month will be the total of the former payments for the car loan ($212), Sally’s Mastercard ($37), his normal payment ($45), plus the Debt Destroyer ($417). Grand total? $711.
How long will it take to pay off his balance now? Just three more months!
Debt 3: Student loan
Here we are: 18 months into the program, and Sam and Sally have wiped out about $11,500 of their debts. Debts that, had they stayed with the minimum payment trap, would have taken them decades to pay. They’ve also saved about $6,600 in interest.
Next is Sally’s student loan. Her balance has shrunk over the last 18 months to about $9,700. It’s an 8.5 percent interest rate, with payments of $182 per month. It’s the steepest debt yet — but the Debt Destroyer is more powerful than ever.
The total of all the old payments, plus the original Debt Destroyer, come to $711. Adding the normal monthly $182 payment for this loan will make a new payment amount of $893. So that’s how much Sally starts sending in. And when she does, she’ll find that her student loan is totally wiped out in less than a year!
Using a simple budget and the Debt Destroyer for a little less than 2 ½ years, they have eliminated every single debt they have except their mortgage.
Instead of paying on this loan for five more years and paying an additional $2,400 in interest, Sally’s making payments for less than one year, and paying only about $400 more in interest.
Let’s pause here once again and recap. Sam and Sally have been using a simple budget and the Debt Destroyer now for 29 months: a little less than 2 ½ years. They have now eliminated every single debt they have with the exception of their mortgage.
But let’s ignore the mortgage for a moment. Had they continued to pay all their other debts by making minimum payments on each one, they would have ultimately paid about $14,000 in interest. Using this program, they’ve paid about $900.
Had they paid only the minimum, they would have been paying the car loan for another few years, the credit cards for 20 years, and Sally’s student loan for more than five additional years. With the Debt Destroyer they have no debts, other than their mortgage, after less than three years.
Now, suppose Sam and Sally decide to stop right here and not even attempt to pay off their mortgage. Their debt payments would have dropped from $1,393 to $917. More important, they’re now accustomed to dropping an $893 check in the mail every month.
But instead of using that money to pay off debts, now they get to decide to send it in to a mutual fund company instead and build up some savings. How much would they have?
Well, if they earn 12 percent on that money, they’ll have about $67,000 in five years, $170,000 in 10 years and $577,000 in 20 years. Not a bad nest egg, especially when you compare it with what they would have had under their old system: zilch.
Debt 4: Mortgage
We’ve only got one debt left, and that’s their mortgage. Here are the details.
When Sam and Sally started using this system, their mortgage was four years old, with a balance of about $120,000. It’s an 8 percent, 30-year mortgage, and the payments (principal and interest) are $917 a month.
During the 2 ½ years that they’ve been paying off their other debts, they’ve obviously been making regular minimum payments on the mortgage. As a result, it’s shrunk to about $116,500.
Who doesn’t want to save $100,000 on their mortgage?
If they continue to make their regular minimum payments, they’re going to be paying on this mortgage for 23 more years, and they’re going to be paying $142,000 more in interest, in addition to the $60,000 they’ve already paid. But they’re not going to do that.
Instead, they’re going to combine that normal $917 payment with the total of their old payments and the Debt Destroyer ($893) and start sending in $1,810 every month.
How fast will their mortgage be paid off? In about seven more years. They’ll still end up paying $36,000 more in interest, but that’s a lot less than the $142,000 they would have paid. Who doesn’t want to save $100,000 on their mortgage?
So now we’re done. It’s been about 9 ½ years, but Sam and Sally have zero debt.
If your debt is too big to manage
There are situations where it’s impossible to destroy your debts because your debts are destroying you.
If you’re in a situation where you can’t even make your monthly minimums, don’t bury your head in the sand. Get help. The best place to find it is with a nonprofit credit counseling service. You can find one I trust on this page of the Money Talks News Solutions Center.
This may be one of the most important things you’ll ever learn, or teach to others. This system for paying off debt really works. Like most worthwhile things in life, it requires some sacrifice. But consider the result: an earlier, happier and better-funded retirement.
Systematically destroying your debts does more than just make you richer. It also allows you to regain control of your life. If your debt’s been a worry, you’ll replace despair with hope. You’ll feel a sense of accomplishment unique to those few individuals who establish goals and reach them, one at a time.
Finally, remember that this isn’t my program; it’s yours. Once you’ve wrapped your mind around it, the ability to live debt-free is within your grasp, and it’s yours to choose whenever you want.
Your task for this week
If you didn’t do it as you were reading the chapter, your homework is to write down your current debts, to whom you owe them, the current balance and minimum payment, and in what order you’re going to destroy them.
There’s another copy below of the worksheet from earlier. Build your game plan and start working toward your debt-free future right now! As you put this to work, we’d love to hear your debt success stories on the Facebook group. Empower others with yours.