6 easy steps to become debt-free

Freedom from the debt trap is not just a dream; it can be a reality with the right approach.

The debt trap is a death trap. Borrowed funds lead to even more borrowing, creating a never-ending spiral that seems impossible to break. It affects individuals, families, and even businesses. But it is possible to break free from this with determination, discipline, and strategic planning. The following methods are proven and effective, and have helped many clamber out of the hole they were in.

Debt consolidation

Debt consolidation is a way to simplify your financial life by merging various loans and credit card balances into one loan, often at a reduced interest rate. That way, you can focus on a single payment. This unified approach enhances control over finances, often leading to interest savings.

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Example: imagine you have three credit cards, each with a balance of Rs 50,000, and interest rates of 18, 20, and 22 percent. By taking out a debt consolidation loan of Rs 1,50,000 at a 10 percent interest rate, you can clear the dues on all three cards. This not only simplifies your payments but also reduces the interest rate, saving money in the long run.

Debt avalanche

The debt avalanche strategy is focused on paying off the debt with the highest interest rate first, while making minimum payments on the others. Once the costliest debt has been paid off, you target the one with the next highest interest, creating a systematic reduction in your overall debt.

Example: continuing with the three credit cards example above, using the debt avalanche strategy, you would focus on paying off the card with the 22 percent interest rate first. After that's done, you would target the one with 20 percent interest, and finally, the card with 18 percent interest. This approach also minimises overall interest payments.

Balance transfer

This involves moving your balance from a card with a higher interest to one with a lower rate. This can provide immediate relief and an opportunity to pay down the principal faster.

Example: if you have a credit card that charges 18 percent interest, you might transfer that balance to a card with a lower rate. That way you can pay off the debt without accruing higher interest costs, thus saving money.

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All banks do not allow you to transfer the balance. Among those that do offer this are HDFC Bank, SBI Card, and Axis Bank. Customers can transfer their outstanding balance from one or more credit cards to one that has a balance transfer option. They need to apply for this service from the bank that provides it. The amount that can be transferred depends on the available credit limit.

It's generally a straightforward procedure, but there are a few steps involved:

1. The customer should apply for a new card that has this feature if none of their existing cards do.

2. The customer needs to inform the card issuer that they want to initiate a balance transfer. This can often be done through the bank's website, customer service, or by following instructions provided with the card.

3. Customers need to provide details such as the number of the card you’re transferring the balance from, and the amount that needs to be transferred.

4. Once the transfer is complete, the customer will receive an intimation. It's important to continue making payments on the card from where the balance is being transferred until the transfer is confirmed, in order to avoid late fees or penalties.

5. Once the balance is transferred, the customer has to make payments on the card to which the balance has been transferred.

Balance transfers can usually be done between different banks, not within the same bank. Keep in mind that there might be fees associated with balance transfers, so it's important to carefully read the terms and conditions of the card that offers this.

Debt counseling

This is a process that helps individuals manage and reduce their debt through education, support, and professional guidance. It plays a significant role in helping people escape the debt trap by providing them with the tools and the understanding to control their financial situation.

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How counselling helps

• Creating a customised plan: a debt counsellor helps tailor a plan that aligns with an individual's unique financial situation. This helps ensure that the debt is tackled in a strategic and manageable way.

• Negotiating with creditors: many debt counsellors negotiate with creditors on behalf of the individual to reduce the interest rate or waive fees. This can make the repayment more manageable.

Create a budget

Creating a budget is fundamental to managing finances, especially when working towards debt repayment. By meticulously tracking income and expenses, individuals can gain a clear understanding of their financial standing. This transparency allows them to identify unnecessary spending, allocate funds more wisely, and develop a strategic plan to pay off debt. A well-crafted budget serves as a roadmap, guiding them towards financial goals while keeping spending in check. Tools like budgeting apps or spreadsheets can facilitate the process, transforming debt management from a daunting task into a manageable one.

Build an emergency fund

An emergency fund is a financial safety net, designed to cover unexpected expenses such as medical emergencies, car repairs, or sudden job loss. Even starting with a modest amount can make a significant difference in financial stability. Without an emergency fund, these unexpected costs could force an individual to take on new debt, hampering the existing debt repayment, or even creating a new debt trap. An individual should target building an emergency fund that’s at least six times one’s monthly expenses.

Avoid more debt

Avoiding the accumulation of more debt is crucial to the journey towards financial freedom. This requires a conscious effort to live within one's means and may necessitate lifestyle adjustments. It entails cutting back on unnecessary spends, such as impulse or luxury purchases, and being mindful of new financial commitments that could lead to more debt.

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By actively steering away from activities and decisions that increase debt, individuals ensure they are on the right track. The benefits of reducing financial strain, increasing savings, and moving closer to a debt-free life make these adjustments worthwhile. It's a shift from a short-term gratification mindset to a long-term financial wellness perspective.

Final words

Freedom from the debt trap is not just a dream; it can be a reality with the right approach. By assessing your financial situation, choosing an appropriate repayment strategy, building an emergency fund, negotiating with creditors, avoiding unnecessary borrowing, educating yourself financially, and staying committed to your goals, you can regain control of your financial life.