5 steps to get out of debt

5 steps to get out of debt

While a certain level of carefully-managed debt can help us make progress towards our financial goals, it’s easy for debts, fees and interest charges to grow larger than we can easily manage.

If you’re struggling with debt and don’t know where to start when it comes to getting your finances back under control, here are five steps you can potentially follow:

Step 1 – Get organised and make a plan

There are several questions you should ask yourself when making a plan to get out of debt:

  • What debts do you owe?
  • Who do you owe them to?
  • How do you owe on each debt?
  • How much are the monthly repayments?
  • What are their interest rates?
  • What are their due dates?

Once you have a better idea of your overall debt situation, you can prioritise which debts to focus on clearing first.

Step 2 – Focus on your smallest debts OR your debts with the highest interest rates

Trying to pay off multiple debts at once can prove both difficult and expensive. Depending on your financial situation, you may want to consider focusing on paying off one debt at a time, and only paying the minimum amount required to service your other debts. The question is, which debt should you concentrate on clearing first?  

One possible strategy is to put the lion’s share of your available budget towards clearing the debts with the smallest balances owing first. These relatively easy wins let you make clear progress towards your goal of becoming debt-free, and give you a valuable psychological boost that encourages you to stick to your commitment.  Also, every debt you fully clear is one payment to budget for, and one less set of fees and interest charges. The funds that once went towards servicing these small debts can then be put towards tackling your bigger, nastier debts.

A second possible strategy is to focus on paying back whichever of your debts has the highest interest rate. The longer you take to repay any loan, the more repayments you’ll have to make, and every repayment means another interest charge. By prioritising clearing your high-interest debts first, you may save more money in interest charges in the long run than paying off your smaller debts first. 

The ideal strategy for clearing your debts will depend on your situation, as well as your household’s personal finances. Make some calculations and use your best judgement to make a plan, and be prepared to stick to it.

Step 3 – Talk to your creditors

Nobody wants to see a borrower default on their loan, including the lender. If you’re struggling to afford your repayments, it may be worth talking to your creditors and being upfront about your current situation, rather than risking missed repayments that could leave you in serious financial strife.

Your lender may be willing to make some concessions to help you manage your debt situation, such as offering a repayment holiday or allowing you to refinance onto a more affordable interest rate.

However, your lender will need you to pay back what you owe sooner or later. If you are offered some debt relief, don’t use it as an excuse to relax and rest on your laurels, but refocus on clearing your balance owing as quickly and efficiently as possible.

Step 4 – Consider debt consolidation

If you owe money to multiple creditors, it’s worth considering whether consolidating your many smaller debts into one larger debt will leave you in a better financial position.

A debt consolidation loan is a type of personal loan where you borrow a lump sum of money that is used to fully pay off and clear your other existing debts. This leaves you with just one loan to manage, with one repayment each month, one interest charge at the one rate, and one set of fees to pay. This can greatly simplify your household budgeting, and potentially make your monthly repayments more affordable.

It’s important to note that a debt consolidation loan could ultimately cost you more in total interest than paying off your debts separately. This is because debt consolidation loans often stretch out your repayments over a term of 12 months or more. While you’ll make a larger number of smaller repayments, you’ll be charged interest on each of these repayments. In some cases, you may pay less in total interest by clearing your debts separately over a shorter period of time, even if the repayments are less immediately affordable.   

It’s also important to note that once you’ve cleared your old debts with the help of a debt consolidation loan, that doesn’t mean you can go out and run up new debts! Resist the temptation to go shopping with your now-cleared credit cards, and focus on your mission to become debt-free.

Step 5 – Get help when you need it

Getting out of debt isn’t easy or fun. It’s hard work, and can be a real struggle for borrowers in financial hardship.

Don’t be afraid to ask for help from professionals, such as accountants and financial advisers. If you don’t think you could afford their fees, the Australian government has free financial counselling services available, along with their National Debt Helpline – 1800 007 007.

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Learn more about personal loans

What is debt consolidation?

Debt consolidation is the process of rolling several old debts into one new debt, usually to save money or for the sake of convenience.

How do I consolidate my debt if I have bad credit?

The worse your credit history, the harder you will find it to consolidate your debts, because lenders will be less willing to lend you money and will charge you higher interest rates.

However, people with bad credit histories can make debt consolidation work by following this three-step process:

  1. First, find a lender willing to give you a bad credit personal loan. This process will be simplified if you go through a finance broker or use a comparison website like RateCity.
  2. Second, make sure the interest repayments on your new loan are less than the repayments on the loans being replaced.
  3. Third, instead of spending those savings, use them to pay off the new loan.

Can I repay a $3000 personal loan early?

If you receive a financial windfall (e.g. tax refund, inheritance, bonus), using some of this money to make extra repayments onto your personal loan or medium amount loan could help reduce the total interest you’re charged on your loan, or help clear your debt ahead of schedule.

Check your loan’s terms and conditions before paying extra onto your loan, as some lenders charge fees for making extra repayments, or early exit fees for clearing your debt ahead of the agreed term.

What are the pros and cons of debt consolidation?

In some instances, debt consolidation can help borrowers reduce their repayments or simplify them. For example, someone might take out a $7,000 personal loan at an interest rate of 8 per cent so they can repay an existing $4,000 personal loan at 10 per cent and a $3,000 credit card loan at 20 per cent.

However, debt consolidation can backfire if the borrower spends the extra money instead of using it to repay the new loan.

What are the pros and cons of bad credit personal loans?

In some instances, bad credit personal loans can help people with bad credit history to consolidate their debts, which can help make it easier for them to clear those debts. This is because the borrower might be able to consolidate several debts with higher interest rates (such as credit card loans) into one single debt with a lower interest rate and potentially fewer fees.

However, this strategy can backfire if the borrower spends the loaned funds instead of using it to repay the new loan. Another disadvantage of bad credit personal loans is that they have higher interest rates than regular personal loans.

Can you refinance a $5000 personal loan?

Much like home loans, many personal loans can be refinanced. This is where you replace your current personal loan with another personal loan, often from another lender and at a lower interest rate. Switching personal loans may let you enjoy more affordable repayments, or useful features and benefits.

If you have a $5000 personal loan as well as other debts, you may be able to use a debt consolidations personal loan to combine these debts into one, potentially saving you money and simplifying your repayments.

Are there low doc personal loans?

Self-employed borrowers may be eligible for low doc personal loans, which require less documentation in their application process than many other personal loan options.

It’s important to remember that though low doc personal loans may require less paperwork, you may need to provide additional security, or pay a higher interest rate.

Can unemployed single parents get personal loans?

It can be more difficult for unemployed borrowers to successfully apply for a personal loan. Most lenders require borrowers to have a regular income available to cover the cost of loan repayments.

If you’re self-employed, or if less than half of your income comes from Centrelink, you may not be eligible for some personal loan options. Consider contacting the lender before applying.

Will comprehensive credit reporting change my credit score?

Comprehensive credit reporting may change your credit score, either positively or negatively, depending on an individual's situation.

Under comprehensive credit reporting, credit providers will share more information, both positive and negative, about how you and other Australians manage credit products. That means credit reporting bureaus will be able to make a more thorough assessment of everyone’s credit behaviour. That will lead to higher scores for some consumers and lower scores for others.

What do single parents need for a personal loan application?

Much like applying for other personal loans, applying for personal loans for single parents will likely require the following:

  • Proof of identity
  • Proof of residence
  • Proof of income
  • Details of assets (e.g. car, home)
  • Details of liabilities (e.g. credit cards, other loans)
  • Loan amount
  • Loan term

Can students with no credit history get loans?

It is possible for students with no available history of borrowing or managing money to get a personal loan, though it may be more difficult as well as expensive than for borrowers with a good credit history.

Having no credit history means having no credit score. While many lenders may consider having no credit score to be better than having a bad credit score, they may still consider it riskier to lend to an unknown borrower and may charge higher interest rates or fees than to borrowers with good credit scores.

Can you pay off a quick loan early?

Many lenders will allow you to make extra repayments onto a quick personal loan when you can afford them, or even exit the loan early, which can help reduce the total interest you are charged. Be sure to check your quick loan’s terms and conditions, as some lenders charge early exit fees for paying off a loan ahead of schedule.

Is it hard to improve your credit score?

It can be hard to improve your credit score, as it usually requires sacrifice and discipline, but hard doesn’t necessarily mean complicated. Some simple ways you can give your credit score a boost include closing extra credit cards, reducing your credit card limit, pay off any loans and make loan repayments on time.

As a general rule, the lower your credit score, the more remedies you can apply and the greater the scope for improvement.

Can I get a $2000 loan on Centrelink?

If more than half of your income comes from Centrelink benefits, it may be more difficult to have a $2000 loan application approved. Many lenders will check if you can afford a loan’s repayments on the income from your job before they’ll approve an application, and many won’t count Centrelink payments when assessing your income for this purpose.

Some lenders may offer $2000 loans to borrowers on Centrelink – consider contacting potential lenders to check before applying.