From temporarily putting a hold on contributing to your retirement account to filing for bankruptcy, here are seven best ways to get out of debt.
Temporarily Hold Off on Contributing to Your Retirement Account
Temporarily stop putting money into your retirement account, but just until you get out of debt. You can then use the extra money to pay off a credit card or your other debts.
Don’t Just Pay Minimum
Don’t pay the minimum on your credit cards each month because the companies earn interest the longer it takes you to pay off your balance.
Paying the maximum amount is the best option. If you must pay at least $70 a month, try to pay at least double that. Doing this might require you to cut back or slow down on your expenses. By increasing your monthly payments, that is less interest fees you have to deal with and you will get out of debt faster.
Strengthen Your Debt Payments
Find out which of your credit cards has the lowest interest rate. Most credit cards will allow you to transfer your higher-interest bills to this card. You can spend less by trading debt at 16% interest for debt at 11% interest.
If the balance of the debt won’t fit on one lower-interest card, pay the minimum on every card but one, thus allowing you to make extra payments. Pay off the balance on this card as quickly as possible. Once you’ve paid off the card, take the same approach with the remaining cards. Debt snowballing is another name for this.
Borrowing against Life Insurance
Unlike term life insurance, which only pays out if you die while having the policy, permanent life insurance pays a death benefit regardless of when you die. Part of your premium also goes in a separate account that builds up cash value. This cash value may be a part of your death benefit, or just add to it, depending on your life insurance. You can borrow some of this, depending on your policy.
If you borrow money from your permanent life insurance, make sure to pay it back. If you die before paying it back, interest and the money is deducted and your beneficiary will not get as much.
If you own a home and have built up equity by paying off your mortgage, a home-equity loan is another option. Homeowners can borrow up to $100,000 and still deduct the interest when filing their tax returns. Use the home equity loan to pay off your credit cards. Keep up with paying them off and the loan so you don’t fall into debt again.
You can borrow from a 401(k), if qualified. Most 401(k) plans can allow you to borrow a maximum of 50% of your account’s vested value. Everything that you pay in interest goes directly back into your 401(k) account meaning you’re paying yourself back the interest that was charged on the loan.
Downsides to this option include:
- Repaying the loan and the interest with after-tax income.
- Interest is taxed again when the 401(k) is cashed upon retirement.
- You must repay the loan within five years.
- The remaining balance immediately due if you leave your place of work before you repay the loan.
- If not paid within 60 days, it is taxed at regular rates.
- A 10% excise tax is taken as a penalty for early withdrawal if you’re under 59.5.
File for Bankruptcy
If you cannot get out of debt, filing for bankruptcy is your last option. Chapter 7 and Chapter 13 are the two types of bankruptcy.
Chapter 7 relieves you of a lot of debts. Debts that are not covered include student loans, child support and taxes. Chapter 7 usually requires you to surrender a large portion of your property as collateral for the debts. Some states provide exceptions which can include:
- Low-value vehicles
- Amounts of equity in a home
- Tools used for business
With Chapter 13 you keep your property, but you surrender control of your finances to the court. The bankruptcy court allows you to repay part or all of your debt over a period of three to five years, based on your sources. Creditors aren’t allowed to contact you during this time. Also, interest charges on the debt do not increase during this time.
Bankruptcy is a last resort because of the drawbacks:
- Paying for an attorney and court filing fees to file for bankruptcy.
- Laws have become stricter so you may not qualify to have all debts removed.
- Your credit record will display bankruptcy information for 10 years, which leaves you with almost no credit.