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Thursday, February 3, 2011

How to manage your debt

Debt management
Debt management is an important aspect of personal finance
Debt doesn't have to be a bad word nor does it have to be out of control spending. Debt exists for a couple of reasons, specifically to fund opportunities that will yield a greater return in the long run and to finance expenditures that are too large to pay all at once.

Sometimes, however debtors may misjudge future cash flows or a change in monthly budgets can occur making previous debt a potential problem. When debt does become out of control certain debt management techniques and methods can be utilized. This article will discuss debt management in terms of budgeting and cost management, debt management resources and debt ratios, interest rates and consolidation loans.

Budgeting and cost management

Budgeting ideally has an allowance for emergency expenditures and unforeseen financial events in addition to debt payments. If debt has become too large or is costing too much paying down balances can both lower interest charges and total amount due. To be able to pay down balances, one must have room in one's budget to do so. Thus, a good budget will make possible added debt payments to pay down balances.

In a nutshell, creating a budget involves balancing income with expenses so that there is additional money left over to save. The reason why budgeting is an important part of debt management is that it helps one plan for a consistent and possible paying down of debt that is realistic. To see a how a budget looks and can be make, click on the following sample budget.

Cost management is similar to budgeting in the sense it plans out the allocation of money for specific uses. However, with cost management, specific debts are reviewed for the most optimal payoff, use of debt payment funds, and cost reduction. For example, if an individual has 3 credit card balances over $2000.00 each with balances in excess of 10%, but their credit score is above average, there is a chance that individual may be able to consolidate the loans at a lower interest rate so more principal is paid with each payment and so that payments may potentially be reduced in order to reallocate funds. 

Debt management resources

There are several means outside of budgeting that can assist in debt management and provide debt
management help to those seeking to obtain greater control of debt. A few of those means are provided below:

• Debt management credit counseling
• Debt management relief
• Debt management programs
• Debt management companies

It may not always be necessary to use one or more of the above debt management help resources, however in some cases they may assist a debtor in finding ways to reduce debt that one might not have otherwise thought of. For example, some credit counseling companies negotiate debt interest rates with creditors and help establish affordable payment plans at lower interest rates so the debtor can pay down the debt more reasonably.

If one chooses not to use a credit counselor, one may also employ the help of a financial planer or financial services firm that is also a debt management company. These types of companies may work with more than just one's debt, but income, savings, expenses, goals etc. to come up with a more complete financial planning and debt management program. Individual debtors may also establish a debt management program for themselves by paying careful attention to cash flow, interest, expense and income details and formulating a practical debt management plan in light of those factors.

Debt ratios, interest rates and consolidation loans

To gain control of one's debt, a debtor may make use of three additional techniques namely debt ratios, interest rates and consolidation loans. The debt ratio is one's asset level in proportion to debt. For example, one may have personal assets valued at $50,000.00 and total debt of $32,000.00 the debt ratio divides the former by the latter thus 32K/50K=64% debt to assets.

One may also calculate a debt to income ratio by dividing total monthly income by total monthly debt. For example, with an income of $3000.00/Month and total debt of $2000.00/Month one's debt to income ratio would be 66.66% of income. Moreover, even though one's debt to asset ratio might be one percentage, one's debt to income ratio might be a higher number. Generally, the higher the ratio percentage, the more concerned one should be about managing the debt.

To manage high debt ratios a debtor can either renegotiate interest rates, pay the debt down or consolidate total debt into a lower interest form of debt. Debt management companies and credit counseling companies may assist with this, but individuals can also perform these tasks with a little research, comparison shopping and a few phone calls to financial institutions. There is a good chance one can lower debt costs especially if previous debt management techniques haven't been made use of.

Managing debt may seem overwhelming at first, but it is possible to get debt under control using the tips provided in this article and/or with other debt management help methods. A key factor in debt management is understanding the debt, what the solutions are and what needs to be done to either reduce, eliminate or gain better control of the debt. Sometimes the debt management process can be performed in a short period of time, whereas at other times it may take longer. The size of the debt, number of creditors and types of debt typically will have bearing on how quickly and effective debt management tools will start being effective.

Image license: Images Money, CC BY-SA 2.0