If you are struggling to pay off your debts and your disposable income, which is the money left after accounting for food, rent and necessary expenses, is not enough to cover the outstanding balance, one method of resolving your financial issues is the pro rata debt plan, which prioritizes bills based on size. Keep in mind that you should contact your creditors before starting such a plan.
The Pro Rata Plan
The math behind a pro rata plan is relatively simple. For example, assume you have $10,000 in total debt outstanding, divided up among several creditors. One creditor is demanding $4,000, another is demanding $3,000, and three others demand $1,000 each. Devote 40 percent of your disposable income to paying off the debt worth $4,000, as this debt takes up 40 percent of your total debt. Similarly, 30 percent of your disposable income goes to paying off the $3,000 debt, and 10 percent goes to each of the $1,000 debts.
Creating a Spreadsheet
To make the calculation process easier, consider using a spreadsheet program such as Microsoft Excel. Because the amount you pay each debtor will change each month, a spreadsheet program helps you keep track of your payments. In one column, list the name of each debt. In the second column, list the outstanding balance of each debt. Add these up, and calculate the percentage of total debt each individual debt takes up. Multiply the percentage by your monthly disposable income, and this gives you the total amount to pay each creditor each month.
Contacting Your Creditors
The pro rata plan may be suitable for those whose monthly disposable income is less than their total outstanding debt (excluding mortgage). As a result, some creditors will demand more money from you each month. Therefore, it helps to contact your creditors before you start a pro rata debt plan. Consider sending your debtors the spreadsheet you created, showing how and when you will pay for outstanding debts. By staying in contact with your creditors, they will be more assured you will eventually settle your debts.
Alternative Plans
Other debt specialists may advocate other methods of debt control. Dave Ramsey recommends the "snowball" method. After making all the minimum debt payments, the snowball method calls for using your remaining disposable income to pay off the principal on the debt with the smallest remaining balance. When that debt is paid in full, continue the pattern with the next smallest debt. Ramsey's rationale is that the satisfaction you receive from clearing the first debt will give you the motivation to clear the rest. A Brankrate article that quotes several credit analysts recommends concentrating on paying off the debt with the highest interest rate first, and then moving on to the debt with the next highest interest rate.
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