This post may contain affiliate links. Please read our disclosure for more info.
Whether it’s student debt, credit card debt, mortgage debt, etc., everyone asks what's the right way to pay down debt.
Good Debt, Bad Debt
So there are a couple things to think about. Some people talk about “good debt” and “bad debt.” When they refer to good debt, they usually mean debt that is income tax deductible (like interest payments on a mortgage) OR has the ability to create value for you in the future. An example of this is student loan debt which is accumulated when paying for tuition which will allow you to earn more money for life. In the short-run, you pay for it, but in the long-run it pays for itself.
Bad debt in its most popular form is credit card debt, i.e. splurging on things you technically can not afford. It's spending more money than you earn, leaving you stuck in a situation where you’re paying high-interest rates on your credit card until you can pay it off. On average bad debt costs most people almost double the value of the item they purchased depending on how long they take to pay off that debt. To sum it up: Good debt pays for itself and then some, whereas bad debt costs you more than it’s worth.
Highest to Lowest
When you think of paying off your debt, first start by ranking the debt based on interest rates – highest to lowest. Then sort this list by tax deductible vs. non-tax deductible. For example, mortgage interest is tax deductible, credit card interest is not. Pay off the non-deductible, highest rate debt first.
If you have a credit card with an 18% interest rate and a home mortgage with a 5% rate, you should start by paying off the credit card first even if the mortgage is a larger amount of debt.
It's Not Just You
The average US household carries an excess of $15k in credit card debt. We are barely emerging from a national financial crisis and many industries are still hurting. We've all had to borrow a little to make ends meet. The point is to stop the cycle before is drowns you. It's very easy to get accustomed to a lifestyle you can't afford.
Consult a Pro
When trying to pay down debt, it’s always best to speak with a professional who can use creative ways to help you get out of debt fast and with more money in your pocket. Don't be defeated or embarrassed. Chances are the person sitting next to you is in the same boat.