When you look for easy and simple ways to manage your finances well and try to pay off whatever debt you have, you will come across a lot of articles and stories. A surprising thing is that many of these are centred on the negative aspects of debts. You will somehow feel these are more of a warning. But, you wish to search for something informative to help you out from your financial distress.
However, in reality, think deeply and take a closer look. There are useful information and advice hidden behind the seemingly negative approach of relating and conveying things.
You can ideally view a lot of positive aspects when you have personal debt as well, provided you manage it properly to keep it under your control.
Due to the increasing cost of living and all items in the market, it may be impossible for you to buy a new home or attend college or buy a car without taking out a loan. Most people take it, and there is no big deal if you do it as well.
Now, the key factor is to manage it properly so that you can make the debt work for your benefit and not against you.
Know Your Debt: How to Manage Your Finances Better?
1. Understand your debt
The first and most important thing to do right at the outset is to understand your debts along with its terms and conditions to make your debt ‘good’ and achieve financial freedom.
- You must know that all debts come along with a significant amount of risks in it. You cannot do anything about it or escape it in anyways. Therefore, you must know how much debt you can take on and handle proficiently. This is the risk tolerance factor that you should be primarily concerned about.
- It is quite natural and obvious that when you take on a debt, you will have to pay it back on time as agreed. What is more important to know is that you not only pay the amount that you borrow but much more than that in the form of interest. It is this interest factor that causes all the trouble in managing your debt and paying it back.
You must, therefore, consider both the rate of interest as well as the tenure of your personal loan to manage your debt proficiently. Apart from that, there will be a wide variety of terms and conditions depending on the type of debt you take on that you must understand very well too.
2. Rate of interest and time
When you formulate a debt management plan, you must start with the rate of interest and the tenure of your loan. Whether it is a credit card loan or mortgage, a student loan or an auto loan, this principle applies to all types of debts. Proper knowledge will ensure a better debt management plan. You will not default and accumulate debt and need to consider reading the debt consolidation reviews to look for ways out of it.
- The rate of interest and tenure of the loan are interrelated and will have a significant effect on the final result working together. If you take out a loan that carries a low rate of interest and can have a long tenure, you end up paying much more the amount that you initially borrowed.
- On the other hand, a loan carrying a high rate of interest and for a short time will mean you will have a high monthly bill to pay. If you are not financially very strong and have a steady and significant cash flow, you will be unable to continue paying it back and end up in debt and an unmanageable one at it.
Credit card debts are the most dangerous as it has the shortest time period and the highest rate of interest. On the other hand, a mortgage loan that often has a very long tenure of 15 to 30 years and may carry a low rate of interest must be considered carefully as well.
You may take it out either at a fixed rate of interest or a floating rate. Both has its pros and cons. For a fixed rate you will pay the same amount as interest even if the prevailing market rate plummets down after a few years. As for the floating rate of interest, it will change according to the prevailing market rate, therefore, making your monthly bill amount uncertain.
3. The Monthly Payment
Apart from the tenure and rate of interest, you must also understand the monthly payment and its breakup. Most people do not know that a portion of your monthly payment is proportioned for the principal and the rest for your interest on the loan.
Ideally, when you start paying your loan, a major portion goes for the interest and a little towards the principal amount. It is, for this reason, you will find that your loan amount outstanding is considerably high even after paying it regularly for several months.
A portion of your monthly bill is also kept aside for an escrow account. There is one more thing that you must know. You can pay more than the minimum payment required every month. But, in such situations, you must know whether the extra amount paid goes towards the principal amount, interest accrued or to the escrow account.
Therefore, knowledge of your loan is very important for designing a result driven debt management plan.
You may also have a look at How Reverse Mortgages started and How they work?
4. Maintain caution while planning
The approach to take to formulate a debt management plan will depend and vary according to the type of loan, the interest rate, tenure as well as your affordability and other terms of the loan.
You must know the penalties, the minimum payment and due date of each loan that you carry against your name. This will ensure that you do not miss out on any benefits. Prioritize your debts according to the rate of interest and pay a debt in full according to your available resources. As for the others, continue making the minimum payment till you pay off your debts.
This is a guest post by Daniel Ng, a freelance writer who has been writing for various blogs. He has previously covered an extensive range of topics in his posts, including business debt consolidation, Finance, E-commerce and start-ups.