As the Fed raises its policy rate, here are the best ways to pay off your debt

The U.S. Federal Reserve raised its short-term interest rate by a quarter of a percentage point on Wednesday and, experts say, credit card holders are among those who will feel it first. Now is the time to minimize your exposure to costly debt, they say.

When people feel like they’re in a financial crisis, they start putting band-aids on the problem, economists say. Debt settlement and bankruptcy should only be considered when you have no other options left. And some accepted standards for paying off debt, such as paying off the biggest debt first, may not always be the best way to go, according to a study published this month in the “Journal of Marketing Research. “. Consumers in debt can be exhausted trying to pay off larger amounts with higher interest rates, even though such a strategy makes more financial sense on paper. “American consumers got out of debt after the financial crisis, but they’re going into debt again,” says Ben Woolsey, president of credit card advice website CreditCardForum.com.

(Read: “Financial professionals have been wrong for years.”)

Tony Robbins says that’s how you get rich when the market tanks

Consumers in debt often make rookie mistakes, especially since many panic, says Kathryn Davis, president and CEO of BALANCE, a subsidiary of the nonprofit Consumer Credit Counseling Service in San Francisco. Some non-nos: take out a payday loan or title loans; transfer a balance to a new interest-free credit card, but do not pay off the balance when the higher interest rate kicks in; and borrow from a 401 (k) retirement account, especially if it involves paying a penalty. Rotating creditors – paying one creditor while failing to pay other debts – is another bad idea: after six months, no one will be happy.

Here are 6 smarter (and faster) ways to pay off your debt:

Prioritize payments based on interest rates

Notwithstanding the psychological benefits of paying off a small loan described above, it may also be a good idea to focus on paying off the credit card with the highest interest rate first, while still making minimum payments. smaller or even just mandatory on their other debt accounts, says Lindsay. Konsko, User Operations Team Leader at NerdWallet.com. Do the math to see how much will ultimately be paid on each card with interest. “Most people will avoid paying the highest interest rate first,” she says, although “it is a matter of consumer judgment.” (This couple forgave $ 125,000 in debt over four years; they decided to pay off the lower amount on each credit card first, because it gave them a greater sense of accomplishment.)

Treat your debt plan like a diet plan

“Paying off debt is like getting in shape and losing weight,” says Ben Barzideh, financial advisor at Piershale Financial Group in Crystal Lake, Illinois. most. “Make a to-do list, track your monthly in and out as well as calories,” says Barzideh. And Konsko recommends small rewards when you hit debt milestones, like a $ 10 manicure or a book when paying off $ 1,000 in debt. As with a diet, make sure your debt repayment plan is not unrealistic. There’s no point in giving up halfway and doing another spending splurge. “People who want to lose weight say, ‘I’ll never eat another chocolate cake,’ but they can usually do it for. [only] a short time, ”says Lynnette Khalfani Cox, author of“ Zero Debt: The Ultimate Guide to Financial Freedom ”.

Don’t miss any payments

If you’re overwhelmed with your credit cards or car loan, but haven’t missed a payment yet, make sure you don’t. Becoming a problem won’t make you like credit card companies, says Khalfani Cox. She speaks from experience: in 2001, she owed $ 100,000 on credit cards and has paid them all off in three years. She said she had an advantage. “I haven’t missed any payments for about 20 years,” she says. This track record helped her negotiate double-digit single-digit interest rates, in one case dropping an interest rate from 16% to 4.9%. “A bank prefers to get some interest from you rather than 0% in [you] failing, ”she said.

Pay attention to debt management and debt settlement

Know the difference between a “debt management” organization and a “debt settlement” company that offers legal and financial services, says Darryl Dahlheimer, program director at LSS (Lutheran Social Service) Financial Counseling in Minneapolis, Minn. The first category includes non-profit organizations that belong to the National Foundation for Credit Counseling, while the latter is made up of for-profit companies. Confusing the two could cost thousands of dollars.

Last year, Dahlheimer says, one of his clients heard about a debt settlement company on the radio. He was instructed to stop paying his creditors so the company could offer a reduced lump sum. He made seven payments of $ 400 per month, but no account was settled and the company charged him $ 2,100 in fees. “Unfortunately, it’s common,” Dahlheimer says. Debt management programs are also not completely transparent to consumers: when you enter into a debt management plan, this fact can be reported to credit bureaus, hurting your credit score. But when payments are made on time through a program, it can also help rebuild credit scores.

Student loan exemption for civil servants

Students with debt who work in the public service, for the government or a nonprofit organization, or who want such a job, should know if they are eligible for debt relief. Under the government’s public service loan forgiveness program, borrowers in public service jobs are eligible for the forgiveness of their direct loan balances after making 120 eligible payments on those loans. (Direct loans are so called because the loan comes directly from the Department of Education.) A person with $ 150,000 in 6.875% federal student loans with a job of $ 40,000 per year who owes $ 281 per month in student loan payments could save $ 321,000 in principal and interest payments by committing to public service for 10 years, says Demetrios Sourmadis, chief financial officer of Student, which advises borrowers on student loan programs. “People are empowered when they know their options.”

Refinance Debt to Get Lower Interest Rates

“People compartmentalize debt,” says Kenneth Lin, CEO of personal finance site CreditKarma.com. “They think mortgage debt is very different from their credit cards and car loans. Even auto loans can be renegotiated. He suggests consolidating your loans, but only if you can do so at a lower interest rate. Your home loan could also help you manage your other debts. Most mortgages have an interest rate of 5% or less, while student loan debt can be closer to 8%, auto loans can be as high as 7%, and teenage credit card debt can go up at 20% or more. It can be worth paying off heavy credit card bills or unforeseen medical debt by borrowing money from your home through home equity loan refinancing (you can do this if you have accumulated the home equity). But only do this if you’re 100% sure you’re not putting your home in danger, he warns.

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