Creating A Better Budget By Understanding Your Debt

The point of having a budget is not only to manage your daily expenses, but also to improve your financial confidence by getting (and staying) out of debt.

Almost everyone carries debt. After all, there are things we need, things we want. And some of those things cost more than what we have in our respective pockets. So, we take out loans and use credit cards, getting further behind the proverbial eight ball each month.

Fortunately, there are two ways to fight against debt.

#1 Understanding Your Type of Debt

Without question, you can go into debt any number of ways. Whether it’s overspending or simply circumstance, once you start assuming debt, you need to be able to acknowledge and identify it because there’s an argument to be made for good debt.

Types of Debt
  • Credit Cards
  • Student Loans
  • Auto
  • Mortgage
  • Medical
  • Payday / Personal Loans
  • IRS and Government Debt

No surprise here: credit card debt is the most prominent form of financial obligation. In fact, proper credit card stewardship probably deserves its own article. Credit cards can be powerful financial tools with plenty of advantages, but they require good discipline and management. Otherwise, you can run the risk of getting behind on payments or unintentionally spending beyond your means.

Credit cards aside, debt actually gets interesting when you look at it by generation. Boomers, for instance, are greatly concerned with medical and mortgage debt. Gen X: home equity and auto loans. Millennials? Student loans.

If you’re reading this, you certainly fit in one of those categories. Probably saddled with one, two or three of those forms of debt. And whatever’s on your credit card.

The takeaway here is, knowing the type of debt you carry is key to not only reducing it but avoiding it altogether. Which leads us to our next item…

...Credit cards can be powerful financial tools with plenty of advantages, but they require good discipline and management...

#2 Creating a Better Budget

Now that you know your enemy, so to speak, it’s time to plan to manage those debts with more focus and confidence.

But before you tackle your debt, create a monthly budget.

Money In / Money Out

Whether you have a regular or irregular income, you still have general household operating expenses, like utility bills, gas and food. Organize these expenditures first. Track your spending to better understand how much money you have leftover for savings, debt reduction and incidentals.

Pay Yourself

Some folks take 10-20 percent right off the top of their paycheck to put back into savings. Good short- and long-term savings strategies include Personal Savings, Money Market accounts, Certificates of Deposit (CDs) and IRAs. If you wait until the end of the month to put money into savings, chances are, you’ll end up shortchanging yourself

On to managing debt…

List / Prioritize Your Debts

Put them all down in black and white. Now, there are a couple of schools of thought on how to organize your debt reduction. One suggests starting with the smallest debts first and paying them off by making minimum payments on all other debts and large payments on the small debts. Then apply that money toward the next level of debt. On and on, until big debts are paid as well. This is called the snowball method.

The other thought is to pay off those with larger totals and higher interest rates. Namely, credit cards. Some call this bad debt, debt that doesn’t have the ability to improve your financial position. It can also impede your ability to pay down good debt, like education and mortgage.

Obviously, having money to apply to all of your debt is ideal, but the biggest challenge and opportunity to debt reduction is mental. You have to be disciplined, determined and focused. Once you create a budget with this goal in mind, you’ll be surprised with all you can accomplish, including gaining the confidence to reimagine your spending habits. Which is the ultimate step to debt avoidance in the first place.

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