Erasing debt completely is difficult, especially if you own a home or buy a car. But just because you can't live an entirely debt-free life doesn't mean you should acquire unnecessary debts and spend your earnings on excessive debt payments each month. There are things to know about debt, and understanding how debt affects your credit and finances may convince you to change the way you manage debt.
Credit Ratings
Creditors and lenders that offer you credit accounts will report your account balances to the credit bureaus along with your approved limits. Thirty percent of your credit score is based on the amount of credit you use. For example, maxing out your credit cards and keeping balances close to the maximum limit will affect your overall score. On the other hand, paying down debts and keeping balances less than 30 percent of the limit helps improve your score.
Loan Approvals
Another factor taken into consideration by lenders and creditors is your monthly debt payments in comparison to your monthly income. Paying enormous debt payments each month can reduce your debt-to-income ratio. For example, paying $2,000 in debt payments each month with a $4,000 monthly income equals a debt to income ratio of 50 percent. Some lenders may consider this ratio high and deny your application for credit or a loan. Lenders vary in their debt ratio requirement, but acquiring a mortgage often calls for a ratio no higher than 36 percent.
Interest Rates
Know that interest rates on credit cards are negotiable, and if you're serious about eliminating your debt, begin with contacting your credit card companies and asking for a better rate. Reduced rates bring down your required minimum payment, and with voluntarily higher monthly payments, you can reduce the principal quicker.
Negotiate with Collectors
Lack of funds to pay your debts can prompt calls from your creditors and collection agencies. Don't stop payments without an explanation. Call creditors before you miss a payment to work out a deal. They may offer assistance, such as lowering your payment or allowing you to miss a few payments without penalty. Thus, you avoid late fees and negative remarks on your credit report.
Consolidation
High interest debts consolidated or merged into one low rate bill can help simplify personal finances and eliminate the debt in less time. Use home equity loans or personal debt consolidation loans to consolidate, or work with a nonprofit debt consolidation agencies to help you manage your debt and credit accounts.
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