Harvard Agrees, This is How You Get Out of Debt

“Improve finances” is usually the second most common New Year’s resolution right behind “lose weight.” For many, “improve finances” is simply code for “get out of debt.”

In the same way those extra pounds take a toll on your body, the weight of debt can be felt physically by way of unnecessary stress.

There’s no worse feeling in the world than to have your paycheck go into your bank account on the 31st, only to watch it disappear a day later due to a series of recurring payments.

The problem for many is that they don’t know where to start or the best approach to take.

For example, should you pay down your credit card with the highest interest rate first?

According to the Harvard Business Review, the answer is no.

In researching the best strategy for paying off credit card debt, a team of PhD’s found the best approach is to:

1. Focus on paying down your cards one at a time
2. Start with the smallest balance first

They essentially found that focus, momentum and the power of small wins trumps the power of mathematics.

But, having this knowledge isn’t enough. After all, what good is information without action?

That’s why I put together a list of seven steps to help you become debt free.

Step 1: Unsubscribe from Unnecessary Emails (Unroll.me)

(It takes less than 3 minutes and it’s free)

Unroll.me will show you all of the email lists you’re subscribed to and allows you to unsubscribe from any of them with one simple click.

When I took this first step, I was amazed to find that I was on 323 email lists! (sidenote: I don’t usually trust guys who use exclamation points, but this deserves one…I think)

I was able to trim this list from 323 down to 9. Said differently, 314 companies have been bombarding me with emails trying to sell me sh*t I don’t need. At some point, I gave some of these companies my email. Maybe I bought something from them 3 years ago and they emailed me a receipt. Maybe another company sold my information to them (I’m looking at you, Military.com). Daily deals. Weekly updates. They all add up to be an unnecessary time-suck.

But, this isn’t about saving time. It’s about saving money and changing your mindset.

Goodbye Consumer, Hello Producer

Your email is a valuable means of communication and companies spend millions of marketing dollars trying to steal your attention and your money.

That’s your new mindset.

Instead of thinking “I’m stimulating the economy with every dollar I spend,” you need to start thinking “holy sh*t, why is everyone trying to steal my money!?”

After all, you work hard for it, so don’t give it away so easily.

Step 2: Grab a Copy of your Credit Report

(This will take about 10-15 minutes and it’s free)

The second step of your debt free journey requires you to confirm how much debt you have. The best way to find this information is to access your credit report.

There are A LOT of companies offering free credit reports. It’s become so popular that I would equate it to Mexican restaurants offering free chips. It’s like, “Hey, we know you’re here for the tacos, but um, eat these until you get uncomfortably full.” A kind gesture but, in reality, they probably made the salsa really spicy to increase your chances of ordering a margarita.

Why is this important?

1. This will allow you to stay on top of all of your accounts
2. Reduce the chances of fraud and identity theft
3. Ensure you’re paying the lowest rates on your debt
4. Banks aren’t the only ones concerned with your credit. Landlords, insurance companies and employers often make decisions based on your credit history.
5. 80% of credit reports have errors in them (source). For example, my dad’s credit cards show up on my report. He pays them, thankfully.

You can also use AnnualCreditReport.com, which is the source recommended by the Federal government.

Step 3: Check Out your Net Worth and Cash Flow

(This will take about 5 minutes and it’s free. Once it’s set up, though, you may spend an hour in amazement.)

Personal Capital is an all-in-one financial tool that allows you to manage your entire financial life in one secure place. From an easy-to-use dashboard, you can calculate your net worth, set a budget, manage investment accounts and plan for retirement.

In other words, Personal Capital allows you to see where you stand.

Are you building wealth or are you broke?

Here’s how you’re going to use Personal Capital for this exercise:

1. Link all of your accounts (and I do mean “all”)
   1. Checking, Savings, Credit cards, Mortgage (this is a liability, so be sure to add your home’s value as an asset as well), 401(k)’s, IRA’s, etc.
2. Check out your Net worth
   1. If it’s negative, that’s okay. You’re in the right place to change course. If it’s positive, the higher it becomes – the better.
3. Check out your Cash flow
   1. Your cash flow shows your income versus expenses. At a basic level, if you’re spending less than you earn and saving the difference then you’re building wealth. So, what you’re looking for here is a positive number. This means you have some room in your budget to throw some extra money at your debts to pay them off faster. If it’s negative, then you’re digging yourself a hole and living unsustainably. Eventually, it will catch up with you.
   2. Get insight into your weekly, monthly and yearly income and spending habits with the Cash Flow tool.
   3. View transactions by category, merchant or date

Step 4: List All of your Debts, in Order from Lowest Balance to Highest Balance

(This will take about 10 minutes and it’s free)

This should be an easy task since you already checked your credit report and it essentially lists all of your debts.

Here’s how I would set it up using Excel (or a similar spreadsheet):

Notice the debts are separated between “Revolving Accounts” and “Term Loans.” The reason for grouping them in this way is because revolving accounts tend to have higher interest rates and do not have an end date to have them paid off. If you pay the minimum payment, the balance may never go down. Credit cards, store cards, medical bills and retail financing accounts typically fall into this category. Even if you have “0% financing,” it still belongs in this group and should be considered a priority to payoff ASAP.

Term loans, on the other hand, have an end-date when you know you’ll have the debt paid off and typically come with lower interest rates. The 3 most common term loans are car loans, student loans and mortgages. For clarification, I would classify a home equity line of credit (HELOC) as a mortgage, even though it’s technically a revolving account.

List the account and the outstanding balance. You can fill out the monthly payment, interest rate and payoff date or you can leave those blank. Make sure you sort it by outstanding balance – from smallest to largest. This is the order we’re going to attack this debt.

Step 5: Do A Little Math, Get Buy-In and Create Your Debt Free Timeline

A French writer, Antoine de Saint-Exupéry, once said, “a goal without a plan is a wish.”

Furthermore, your goal must be SMART:

• Specific: well defined
• Measurable: the distance between where you are and completion
• Agreed Upon: if you’re married, your significant other needs to buy-in
• Realistic: obtainable given your situation
• Time-based: give yourself an end date

With that in mind, here’s how to calculate your end date and create your debt free timeline:

1. Add up all of your debt (you should have this readily accessible from step 4)
2. Look at your positive cash flow (what’s the difference between your income and expenses from step 3)
3. Divide the answer from #1 by #2

Example:

1. $32,000 in debt between credit cards and student loans
2. $1,500 positive cash flow each month
3. $32,000 / $1500 = 21 months

This should show you approximately how many months it will take you to payoff your debt IF you apply the entire available cash flow to the debt.

Realistically, that won’t happen.

So, your focus should now be to increase your positive cash flow number as much as your can. In other words, increase your income and reduce your expenses. In other words, enter attack mode.

Step 6: Enter Attack Mode

Increase Income

1. Stop 401(k) contributions
   • An employer match is a nice thing and feels like free money. But, why are you saving for 30 years from now while you’re still paying for things from yesterday? Consider giving up a measly 3% now so you can afford to contribute 15% later.
2. Adjust deductions
   • Did you receive a large tax refund last year? Probably. Adjust your witholding so your paychecks increase now and stop giving the government an interest-free loan.
3. Work overtime
4. Think about the 80/20 rule
   • The Pareto principal suggests that 80% of effects come from 20% of causes. Ask yourself which 20% (things you’re doing) is leading to 80% of your results?
5. Know your worth
   • Check out what similar employees with your job title make on Glassdoor.com. Also, entertain those pesky offers from recruiters on LinkedIn and use it as leverage with your existing employer.
6. Quantify your impact
   • Have you completed a task recently that either made or saved the company a lot of money? Remind your Manager of that during your performance review.
7. Sell stuff
   • Did you know that only 20% of the things in our closets are worn on a regular basis? Read A Closet Full of Regrets in the Wall Street Journal.
8. Drive for Uber
   • You probably drive around town anyways, why not get paid for it?

Reduce Expenses

1. Stop recurring payments you haven’t used in several months
   • Spotify, magazine subscriptions, gym memberships – we all have them
2. Make homemade meals
   • I’m a foodie, so I enjoy eating out as much as the next guy; but drinks and tips are costly.
3. Review your cell phone bill 
   • Companies like Sprint and Republic Wireless are slashing costs compared to Verizon and AT&T
4. Switch car insurance
   • This usually pays off every few years. And GEICO has to be able to substantiate their claim to save you 15% in 15 minutes.
5. Bank accounts
   • Make sure you’re getting the most of your accounts – No fees, high interest and good rewards.
6. Review life insurance
   • People are living longer and mortality tables change. If you have a whole life policy, you’re paying too much. Switch to a 20-year level term policy that is 10x your income. And you don’t need life insurance on anyone whose income you don’t depend on (ie. your kids).
7. Refinance mortgage
   • Rates have gone up, but they’re still at historically low levels.

Step 7: Listen to Dave Ramsey

Dave Ramsey is an author and talk-radio host who focuses on financial education and, specifically, getting out of debt. His results are undeniable as he has helped millions of people, just like you and me, become debt free.

Each day, he shares roughly 3 hours of audio content via his podcasts featuring regular people calling in with common money questions.

Instead of jamming out to 24 karat magic tomorrow morning, give Dave a listen for a little motivation.

1. Grab your phone
2. Open your Podcast app
3. Search for “The Dave Ramsey Show”
4. Subscribe

In closing, I wish you the best of luck on your journey. Let me know if I can help along the way.