A couple of months into the new year, many Americans are still suffering from a holiday debt hangover. In fact, in early December – just as the shopping season was getting underway – more than 1 in 10 people who used credit cards to make holiday purchases back in 2011 were still paying off the debt, according to Consumer Reports. The good news is that there are proven ways to cure this kind of hangover.
- stop the bleeding
- think snow
- try to negotiate
- understand the pros and cons of balance transfer
- beware of debt consolidation
- ignore the bills
- rush to credit counseling
- write off debt settlement
- resort to bankruptcy
- give up
First step: Stop using credit; use cash or a debit card instead. To protect credit scores, never close a long-standing account with a positive payment history, but rather put the card away. If necessary, give the card to your mother for safekeeping, place it in a safety deposit box, or freeze it in a bowl of water. By the time your thaw the card out, you’ll have gained time to think through any purchase.
Implement a payoff system by choosing the “snowball” or “avalanche” method. With either, always pay secured debt, such as a mortgage or vehicle loan. Then, with the snowball method, pay off your smallest debts in full first, then move on to those with higher balances. This method is actually more expensive over the long term, but many consumers report greater success with this method.
Alternatively, you can go with the avalanche method and make minimum payments on the cards with the lowest interest rates. Then, put all your remaining available funds to the card with the highest interest rate. Once the highest-interest debt is paid off, move to the card with the next-highest rate. Continue making minimum payments on all debts except this card, on which to put all other available funds. Continue this way until you are debt-free.
If you are struggling to make even the minimum payments on bills, try calling creditors and asking for “temporary hardship” status. Some creditors may work out payment plans if you have had a true temporary hardship (e.g. lost a job but now have a new one) and otherwise good payment history.
Balance-transfer offers can be attractive. Indeed, consumers who have a good credit score can consider taking advantage of a lower-interest transfer offer on a new credit card. However, they must be careful, making sure to: read the fine print to calculate the balance-transfer fee, choose a card without an annual fee, be absolutely confident they can pay off the balance before the rate expires, and stop all charging on old and new cards.
Many consumers think that debt consolidation sounds like a panacea. If the problem is too many accounts with too-high minimum payments at crippling interest rates, debt consolidation may be an answer. But understand that debt consolidation essentially means combining and downsizing debts so they are easier to repay. It does not replace the need for a lifestyle change to ensure you are living within your means.
There are several ways available to obtain funding to consolidate, and pay off, debts. They range from borrowing from a friend or family member to last-resort strategies such as borrowing from a life insurance policy, or 401(k) or other employer-sponsored retirement account. Some individuals take a title loan on a vehicle to pay off all credit card debt. Debt consolidation services also exist, and ask consumers to make one monthly payment, which then is used to pay creditors. Consumers pay back 100 percent of the debt, plus interest. The loan is usually secured by the borrower's property, such as a home or car, which puts those items at risk if the borrower cannot pay. Beware of high fees, and check the service's reputation. Those working with a debt consolidator will likely sacrifice the freedom to open and use additional credit lines and, in many cases, their credit profiles.
Some people, feeling overwhelmed with their credit card bills, simply don’t pay anything, or get in the habit of paying late. Don’t. Pay every bill on time to avoid increasingly high late charges, penalties, and fees. And paying what you can will not only make a dent in the debt, but send the message to credit card companies that you are making the effort.
Credit counseling is a greatly misunderstood term. Most credit counseling agencies are for-profit. They maintain pre-arranged agreements with the credit card companies themselves to lower interest rates on a consumer's existing debt. These plans – called debt management plans – reduce monthly payments, but not the principal amounts owed.
With discipline and a budget, many people can whittle down their debt hangover on their own. But those carrying very serious debt, and who are struggling to make required minimum payments may consider debt settlement. Now regulated by the Federal Trade Commission, these firms work on consumers' behalf, negotiating with creditors to lower principal balances due. Programs typically provide better repayment terms than a Chapter 13 bankruptcy filing and do not leave a permanent bankruptcy judgment on one's record. Debt settlement is best suited for individuals who otherwise would be considering bankruptcy or credit counseling.
Bankruptcy should be a last resort, as it destroys a credit rating for many years. Chapter 7, the type of bankruptcy that eliminates most consumer debt, is more difficult to qualify for than it used to be, and more expensive. Chapter 13 bankruptcy filings, which require consumers to repay debt on repayment plans, are available to those whom their state determines through its means test, have enough income to pay back at least some of their debt. Repayment terms generally are less favorable than those found with debt settlement. Consumers considering a bankruptcy filing should speak to a bankruptcy attorney licensed in their state.
Not taking action will only make matters worse. Whether you face a few months of discipline, or debt that seems insurmountable, this is one hangover that can be cured.
It’s not too late into the year to make a fresh start. If you still have a holiday debt hangover, remedies do exist. Determine which plan, or relief option, is right for you, and get started on the path to a healthy financial future.