Debt cycle is a vicious cycle which you can’t escape easily. Difficult though, but there are some steps you can take to get out of the debt mire.
In this article will focus on what are the early signs of debt trap and ways to escape from this vicious cycle.
Early signs of debt trap
- Higher portion of your salary goes to EMI — You should ideally spend 30% to 40% to service your EMI. If it is more than 40%, it’s mean a red flag.
- Taking loan to fund monthly expenses — If you often borrow money to fund monthly expenses mean you are in serious trouble.
- Taking a loan to repay another loan — This sounds smart. But if you happen to do this every time, you’ll end up in a debt trap.
- Unable to pay credit card dues — If you are unable to pay credit due, instead of paying the minimum payment, could take many years and cost you thousand of extra money as interest.
- Borrowing based on future income — Borrowing based on current salary is fine. But if you decide to take a loan now and aim to repay it when you get a fancy bonus or increment later this year, you maybe in for trouble.
Causes and solutions for debt trap
Credit card usage
Credit cards are one of the major debt trap to which most of the people get attracted to easily. Main advantage of credit card is, you can buy whatever you want even when you don’t have money. Because of the notion that you can pay later, you’ll be attracted to use the card to buy the thing that ignites your interest. But when you’re undisciplined and careless, you get trapped in debt.
If you fail to clear your monthly credit bill in a timely manner, your debt will rapidly compound along with the higher interest rates. And also late payment will incur corresponding surcharges like late payment fees.
In the event that you cannot pay your entire outstanding amount and if you pay only the minimum balance, still you incurred a huge debt at the end. Because the minimum balance is a very little amount from your total debt. And paying only the minimum balance will take many years to settle your total debt and eventually you will end up paying thousands of extra money.
Do keep in mind that if you become a defaulter then this will affect your credit score, in a bad way. The lower your credit score gets, the harder it will be for you to opt for alternative methods to erase your debt.
So what are the ways you can avoid getting into trap from credit card ?
- Pay off the balance in full each month
- Use only one credit card — the more cards you have, the more debt you are to face
- Use physical cash as much as you can — self imposed your spending with card for few months. Take your credit card out of your wallet and use physical cash instead.
Wants vs Needs equation
One of the emotional limitations of living is that we come to see wants as needs.
Let’s take a realistic example. Now a days a mobile phone also becomes a basic human need. But buying a latest iPhone ? That’s a want. Before you buy an iPhone, be realistic whether you can afford it. If you can’t afford it, then stop before going any further. Remember, it’s just a want and still you can go for another phone model for a cheaper price.
Another example is restaurant meals. Due to busy life and no time to cook, you often go to restaurants. That pattern is not a necessity either, it’s convenience. If you have too much debt, convenience is something you can’t afford.
If you are serious about getting out of debt, be realizing what are your wants and what are needs. If it is a want, you don’t need to spend money on.
Imbalance between income and expenses
If the income is lesser than the expenses, it’ll lead you to borrow. Best way to fix this problem is, lowering your expense and increasing your income.
Here are few ways you can bring balance between income and expense,
- Analyze your spending and cut-down the unnecessary expenses
- Make a budget plan and stick to it. When planning the budget, keep your expenses lesser than your income
- Don’t make major purchase decisions on whim. As mentioned earlier, identify whether it’s a need or want. Spend only if it’s a need (necessity). Wants can wait.
- Increase your income by working part time and earn extra money. Or work overtime, maybe 10 hours a day.
In general, we might care less about what others think. But when it comes to matters regarding money, we let people we know to influence us.
Let’s take an example. Let’s say your close friends are planning on a pricey group outing. You can’t hurt your friends though and you are a little embarrassed about your money situation. So you say “yes”. You spend your whole outing expense with the credit card.
Another example is your close friend’s wedding. That’s something you can’t avoid and eventually you have to spend 100 dollars for the clothing, shoes and other related expenses.
So how to get rid of such situations ?
- Be honest — You can simply give an explanation like “Sorry, but I am on a budget these days” if you can’t afford.
- Include social events in your monthly budget — specially for some unavoidable events like best friend’s wedding
Debt consolidation will be the ideal solution, if you have multiple loans and paying a higher EMI every month. In simple term, debt consolidation means taking a new loan to pay off multiple debts.
If you have multiple loans, first list down all the loans along with the interest rates, EMI and number of remaining months. And then thoroughly analyse the loans which has higher interest rates and which has higher remaining installment. In case you realize that there are lots of such loans with higher interest components yet to be paid out, you could consider debt consolidation by taking a loan with a much lesser rate of interest. Loans like personal loans have lesser interest than other loans.
Main benefit of debt consolidation is you will have to pay only one loan amount and you can easily track single loan than multiple loans with different interest rates.
Hope this article is useful. Some claps will show how much you enjoy.