Budgeting your monthly expenses is one of the best things you can do for your financial health. Although it may sound boring, it is essential to managing your debt and expenses responsibly. Many Americans find themselves overwhelmed in credit card debt due to unnecessary spending or lack of an emergency fund, so they rely on credit cards to get through financial difficulties. This only leads to more debt, and the vicious cycle continues. Some rely on debt consolidation loans to reduce or eliminate their debts.
Document Your Debts
Set aside a few hours and devote them to developing a budget. It is important to know how much you are paying out each month and compare that to how much income you have. Write down (or use a spreadsheet) every single expense you pay each month. Be sure to include everything: child care, car repair, food, transportation rent or mortgage, utilities or any other expense you have.
For debts such as credit cards or personal loans, write down the monthly payment, the total balance and the interest rate. Use a multiple credit card payoff calculator to get an accurate picture. This is important because you will want to pay off any high-interest debts first, because they are costing you the most in interest rate charges. In addition, separate your expenses into needs and wants so you can see where you can make cuts to start saving money or to pay down your debt.
Analyze your Income
You will need to compare your monthly income to your monthly expenses to determine how much money you have left over each month. All income should be considered, such as child support, alimony, or other income. Subtract your total monthly expenses from your total monthly income, and this will tell you how much money you are actually profiting each month. Unfortunately for some, this number may not be very high.
Break Down Your Expenses
You can break down your expenses between fixed costs, financial goals and flexible spending. This can help you identify areas where you can make some cuts, and areas that you can’t. The recommended percentages will vary depending on your specific situation, but they are useful as guidelines that may help you develop your budget.
Fixed cost expenses do not vary from month to month in most cases, such as rent or mortgage, utilities and car payments. Other fixed costs may include child care or memberships to a gym or other organization. Most financial experts recommend that no more than 50% of your income goes toward fixed cost expenses.
Some of your expenses go toward securing your finances, such as saving for retirement, reducing credit card debt, saving for a house, or whatever your financial goals are. Close to 20% of your expenses should go toward your financial goals. For many people with credit card debt, the amount may significantly exceed 20%, which is why it is important to eliminate that debt so you have more money to put toward things you enjoy.
You have nearly 30% of your income left for flexible spending, which includes food, transportation, entertainment, hobbies or other expenses. Although some of these items are necessities, they are considered flexible because you do have the ability to reduce or cut back on some of these expenses.
Cutting Back on Expenses to Increase Your Profit
Think of the goals you have for yourself financially. Perhaps you want to help pay for your child’s college education, or you want to buy a house or a car. Others may be trying to overcome credit card or other debts. Only you can determine how you want to utilize your budget to increase your profit so you have more money to achieve your financial goals.
When you analyze your expenses, and separate them into necessities and non-necessities, you determine what sacrifices or changes you can make to reduce your unnecessary spending. If you have multiple credit cards, you may not have much left over after you subtract your expenses from your income. These debts also tend to have the highest interest rates.
Using a Budget to Overcome Your Debt
Now that you have each of your monthly expenses documented, you will want to review them to determine which items you can reduce to have more money to put toward reducing debt or a savings or emergency fund. In this case, you want to look at all your expenses, even the necessities. For example, although food and gas or transportation are necessary, you may still be able to reduce the amount you spend on these necessities each month.
Cutting back on food expenses can be as easy as clipping coupons or buying off-brand products, or reducing the amount of times you eat out each month. Depending on how much you eat out, cutting out restaurant visits can save you hundreds each month. You may also reduce transportation costs by carpooling or walking or biking when you can. There are multiple ways to cut back on expenses, so be creative and decide which cuts you are willing to make.
Put the Extra Money Toward Your Debt
You now know which debts have the highest interest rates, and these are the debts you want to pay off first. The money you save by cutting your expenses should go toward reducing these high interest debts. Why? Because you are throwing money away in interest rate charges, most likely hundreds of dollars per month. If you can eliminate these debts, you can have more money to do the things you enjoy or to put toward your financial goals.
Increase Your Income
Another option you have to increase your profit each month is to find a way to increase your income. You may think you don’t have the extra time for a second income, but it may be easier than you think. If you are already walking your dog, see if you can do some dog walking for money. Already busy with a young child? Pick up some babysitting or child care clients. There are many online options for freelance writing, data entry and other services, so you have a variety of options to find something that works with your schedule.
Credit Card Debt
If you have multiple credit cards, you may find yourself with minimal profits each month, because a lot of your money is going toward paying multiple monthly payments that you can barely afford. Having multiple cards that are near the maximum credit limit will not only negatively affect your credit score, but it also makes it extremely difficult to manage the payments. Some people may be in so deep that they look to balance transfers or debt consolidation loans to help reduce their debt.
Before you consider any assistance with eliminating or reducing your debt, you will need to analyze your budget. The only way you can truly overcome your debt and achieve financial freedom is to eliminate the use of credit cards. Eventually you may have a card or two, but only if you can use them responsibly and keep a low balance.
If you can make significant cuts to your expenses, you can reduce your credit card debt over time. While reducing debt on your own is possible, some people need assistance because of the significance of their debt. Many people look to balance transfers, debt consolidation loans or debt settlement organizations to help them eliminate or reduce their debt, although in some cases, these tools do not have the desired outcome. Instead, they may end up severely damaging your finances if they are not used properly.
Negotiate with Your Creditors on Your Own
Don’t be afraid to contact your creditors on your own to negotiate the terms of your account. If you know you will making a late payment or can no longer afford the minimum payments, then you will want to contact the creditor to see if they will work with you and perhaps waive the late fees or the interest rate increase that comes with making a late payment. Although they may not offer any compromise, it doesn’t hurt to try.
A balance transfer allows you to transfer all your credit card accounts in one card, thus making just one monthly payment. This can be a great help in organizing your payments, but the balance transfer will come with fees and other terms that you may not realize unless you read the fine print of the transfer agreement. A balance transfer should be approached with caution, because you can end up paying the same amount you would have without the transfer, and sometimes more.
Although many credit card companies offer 0% introductory periods on the account balance, they also charge you a fee between 2 to 5% of the total amount you transfer. This is how you can end up paying more than your initial debt if you consolidate your credit cards into one with a balance transfer. When the introductory period expires, the APR may be up to 25%. If you make one late payment, it may increase even more.
If you are considering a balance transfer, you should compare the final APR to what you are currently paying. If it is not much less or higher, a balance transfer is not a good option for you. Balance transfers are typically only beneficial if you have a relatively low total balance that you can pay of or reduce significantly before the 0% introductory period expires.
Debt Consolidation Loans
What is a Debt Consolidation Loan? The concept of a debt consolidation loan is simple, and it is not much different than a traditional loan. You receive a loan which you use to pay off your multiple high interest debts, and then make one monthly payment to the lender. If you get a loan with a low interest rate, this can save you money in interest over time, and it can eliminate multiple monthly payments to multiple lenders. There are disadvantages to consider with a debt consolidation loan as well.
A debt consolidation loan is a good option to consider for managing your debt. It can lower the interest rate you are paying and it allows you to combine multiple payments in a single monthly payment. It is important to make sure you can afford the monthly payments before signing any loan agreement. The key is to get an interest rate lower than what you are currently being charged on your debts.
Some debt consolidation loans may require you to stop paying on your accounts or to close them altogether, which will negatively affect your credit score. You should also consider how long it will take you to repay the loan. The longer the loan term, the longer it will take to pay off and the more interest you will end up paying. To successfully overcome your debt, you should stop using any credit cards or lines of credit. To eliminate your debt, you must stop accumulating it.
A debt settlement company will negotiate with creditors on your behalf, but they will charge you a negotiation fee for their services. Some may require you to stop paying on your accounts, which will cause them to go into default. You may also be required to claim any debt negotiated down as income. Some people find great benefit from using debt settlement, so it is up to you to determine your best option for debt reduction or elimination.
Developing a budget is the first step toward achieving your financial goals. Whether you are saving for retirement or looking to eliminate your credit card debts, you must know how much money you need to make those things happen. Some people are surprised at the amount they spend on unnecessary items, and there is no denying your spending habits when they are laid out in front of you. Create a budget and follow it, and you will see that you can successfully manage your finances with a little time and a little effort.
Financial Advisor, DCL
Claire is a noted financial writer and author of hundreds of articles about personal and business finance. Before getting her MBA, she graduated with a BS in Economics. Her coursework focused on the different ways that debt, debt structure, and debt restructuring affect micro and macro-economic issues.
Upon graduation, she took a job at an investment bank that worked with municipal and county governments to help them reorganize and structure their debt so they could continue to provide essential city services.
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