The aim to minimize individual debt burdens is something Americans are focusing on. At times, unfortunately, we simply exchange one liability for a different one, the Federal Reserve shows cutting credit card debt while adding to education debt. At the same time, we are seeing an overall decline in debt burdens. According to the Federal Reserve Bank of New York, in less than one year, consumers have decreased debt by $100 billion.
For the financial situation of millions of households, this is without a doubt a positive factor. However, often when a family cuts debt they feel like their job is done. Managing the remaining debt is just as important. This would include the obvious areas of continuing to make timely payments on loans, focusing on the highest rates first and not building up credit spending again.
However, there is a lot more that should be taken into account according to Consumer Eleanor Blayney with the Certified Financial Planner Board of Standards. She provides five keys which can help families to manage debt.
1. Liabilities and assets should be matched
In banks, insurance ad pensions, this rule is essential. It is also the principle behind target date mutual funds, those that make a gradual transition from stocks to cash over a set period of time, like for retirement or when saving up for education. It revolves around the idea that you should have access to assets at the time when you need them. That means you should try not to finance an asset which is long term, like your property for instance, with a loan which is short term, like your credit card. The value of your home can’t be used to pay off the bill. If you borrow long term when it is for a short term asset you could be in risky waters. If you take out a loan for a used car which spans over 10 years, you are going to be footing the payments a long time after the car has made its way to the junkyard.
2. Liquid savings need to be maintained
Creating a perfect match between assets and liabilities is not always possible. At these times it is tempting to visit your liquid savings. Organizing a refinance option for your mortgage at a lower rate could be a clever idea. However, it may require you to use some of your liquid savings to cover closing costs – this is only beneficial when you know you can start rebuilding those liquid savings straight away.
3. Be careful of interest rate risk
If you opt for a variable interest rate when you borrow, the cost of your debt will increase as the market rises. In recent times this has not been an issue as the rates have generally decreased. However, eventually we will see a reversal of this. That means you should make plans which reflect a higher loan coast in the future to keep your debt under control.
4. Saving should not be forgotten
Getting debt paid off is a wonderful thing, However, if it is at the risk of building retirement savings, you are in for a future disappointment. You may find it more useful to slow down on your debt payment and make the most of a 401(k) plan, this will be especially good if there is an employer match offered. Decrease the expense of regular debt. Usually you need to service debt each month. That makes it a regular expense which you cannot avoid. Your flexibility will be lower when the debt is higher. For retirees this is a valid point since they may be using their investment portfolios income and may need to sell stocks at a low rate so that they can meet their current debt obligations. hence, while loan rates are good, it may be wise to get rid of debt.
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