Consumer debt and financial problems plague people across the country. Americans are carrying nearly $4 trillion of consumer debt. Debt can escalate very quickly or accrue slowly over time. For many people, the problem is caused by living outside of their means, whether they are making $40,000 or $400,000 a year.
I can honestly admit we were one of those families. Over 10 years ago, we welcomed our first child, our daughter. Three and a half years later, we had our son. Once our son was about 18 months old and VERY mobile, I brought up the topic of moving to a bigger home. In 2003, we had bought a great foreclosure, invested in and renovated it, and ended up with a great upgraded starter home. But the space was feeling too cramped.
It was not until we had that conversation that I realized how much we were living outside our means. My husband told me that with our debt and spending there would be no way we could afford the kind of home we wanted. I will admit that I was blind to our finances. My husband always handled our money. I figured we both earned a good living. But then I began to pay attention, and I was shocked. We were literally living paycheck to paycheck, spending our money frivolously and creating mountains of debt.
I felt lost. We had always had a vision of living in a bigger “dream” home, but I realized that at our rate of spending, we could never do it. We both realized we needed to get serious. My husband had been nudging me for years to look at our spending, but I was in denial. I suggested a popular resource for debt reduction created by nationally known author, financial advisor and radio host Dave Ramsey called Financial Peace University.
I would sometimes listen to his radio program, and I admit I thought he was a bit of a kook and his followers were a little crazy. Ashamedly so, I figured these were people that were completely “out of control” with their spending. Once I looked at our spending, I realized we were that family.
We had multiple credit card debts, a home equity loan, car loans and the much-dreaded student loans. In order to live the kind of life we wanted and to ensure financial security, something had to change.
I told my husband that if he did the homework and came up with a plan, I would be willing to sign on. My husband delved into books, audio recordings, resource, critics of the plan and advice blogs. He suggested I read the book, which I did (I honestly skimmed but I got the main idea). But I knew I had to be fully invested to make it work so, make no mistake, I was and have been a true partner in all of it.
I can’t stress that point enough – both members of the head of the family have to be fully invested in changing their lives in order to change their financial future. Both have to understand it will not be easy but be committed to partnering with each other to achieve these goals. You also have to be committed to not using credit to pay for your purchases. Trips, gifts, big ticket items – they all have to be paid for in cash from your checking account.
“For households with shared budgets, it’s important to be on the same page,” said Krystal Robles, branch manager at the CAMPUS USA Credit Union Hunter’s Crossing Service Center. “You probably are not the only one that spends money or pays the bills, so if one person is spending like crazy and you’re following the budget you need to communicate. Take each other’s needs into consideration when setting up your spending guidelines so you are both happy with the end result.”
Although we used Dave Ramsey, there are many ways to achieve financial freedom. Working with local banks and financial experts can allow you to get your finances back on track as well. Or you can use a combination of both. Each type of financial freedom plan has to be tailored for your family.
Dave Ramsey’s plan recommends following seven “baby steps” in this order:
- Save $1,000 to start an emergency fund
- Pay off all debt using the Debt Snowball
- Save 3 to 6 months of expenses in savings
- Invest 15 percent of household income into Roth IRAs and pre-tax retirement
- College funding for children;
- Pay off home early
- Build wealth and give
Ramsey’s method is built around the premise that these steps are typically achievable for many families and provide “small wins” throughout the process. The debt snowball is one of these ways. For the snowball, you list your debts from smallest to largest and put all your extra money toward the smallest debt while making minimum payments on all of your other debts. This provides you with confidence as you move forward through the process.
A 2012 Northwestern University study of nearly 6,000 debt settlement clients found that the fraction of debt accounts paid off was a better predictor of eventual success than was the dollar amount. Achieving smaller goals can help you stick with your overall plan. It sounds corny, but it really does work.
The emergency fund should be used for things like out-of-pocket medical expenses, loss of employment, last-minute travel arrangements, emergency home repairs and other stressful situations.
“Remember that old saying, out of sight, out of mind? The easiest way to build up savings is to divert money before it ever gets to you. Can’t miss what you never had, right? See if your financial institution offers payroll deduction,” said Kierra Stover, marketing coordinator at the Florida Credit Union. “With payroll deduction, a pre-determined amount or percentage of your check is diverted into a separate account before being deposited.”
When writing this article, I consulted with my partner on this journey, my husband. I wanted his perspective since he was well-versed and educated on this method and how we went about it. One thing he felt should be emphasized was the psychology of a budget.
“Most people tend to think that a budget is too restrictive and doesn’t allow them any freedom,” he said. “The issue is they haven’t analyzed their expenses, prioritized their financial goals and put them in writing. After you analyze your expenses, the next step of creating the budget should be based on that analysis. When someone has a goal of getting out of debt and makes a budget based on that goal, the only restriction is the goal, not the budget.”
The first thing we had to do was analyze our expenses down to the last penny. You will be shocked when you look at your expenses over a period of a few months – or years. For us, it was the amount of money we spent eating out. Whether it was work lunches or family dinners, swiping our cards was so easy, and I never realized how much money was going to frivolous meals. For other people, it may be Amazon Prime, shoes, children’s gifts that they may not need or too much travel. Just like on a diet, everything has to be done in moderation.
“First and foremost, it’s important to be honest with your spending. Write down all spending habits, from needs to wants, over the course of the last couple months. Whether it’s bills or recreational items, it’s necessary to see it all in black and white,” Robles said. “Avoiding this step will literally leave you coming out short. Be honest and you’ll come out ahead.”
Once we did that it was time to build a budget. This is probably the most important step that you can make with your partner and family. Meet with your partner and build a real (not aspired) budget. First, start with all of your necessary expenses (home, utilities, groceries) and then see the kinds of expenses that are typical musts, depending on your family (cellphone, vehicles and so on). You will have to make minimum payments on all of your debt. Then begin to evaluate where you can cut back. Is it on services (cleaning, lawn, pool, hair, nails)? Chances are you can find places where you can cut back on expenses.
“You may not realize that you or your spouse go out to lunch three to four times a week and are spending $40 extra from your already tight budget. From there, trim the fat and look for ways you may be wasting some of your hard-earned cash,” Robles said. “Pack your lunch, make your coffee at home, and repurpose some of your clothes instead of buying new outfits just because it’s on sale!”
Many people avoid analyzing their expenses because they truly do not want to face the true picture of the finances. I understand this because I was in the same state of mind. It was the greatest source of denial and I believe this denial is what puts people in mountains of debt with no real plan of how to get out of it.
“As messy or repulsive as your financial snapshot looks, an exhaustive detailed list, capturing your financial story is mandatory,” said Craig Morrison, a financial guidance counselor and owner of CMO Consulting. “You cannot reach your destination without first acknowledging your starting point. Not only will this quantify the depth and breadth of the financial hole that needs to be filled, it will also cast light on the oxymoron dependency of using debt as a recurring source of income.”
There are many apps available to assist with analyzing expenses and budgeting. Some are free, and some offer low subscription rates. These include Mint, Every Dollar (Ramsey’s app) and YNAB (You Need a Budget). We personally use YNAB because it fits our family best but there are many options to fill your needs.
In the first month of our budget, I remember checking our bank account the day before payday and I could not believe how much more money we had in our bank account. That sealed it for me. I knew it was a sacrifice, but it was then that I was sure it would pay off.
We are still on our financial freedom journey. To date, we have paid a significant amount in almost three years, which includes all of our credit card debt, car loans and one student loan while almost done with our second. We did it simply by budgeting, meaning we did not sell a car or inherit any money. We had a few pay raises that definitely helped, but I believe anyone at any income can get on the road to financial freedom.
It was not easy. It meant a lot of weekends spent packing a picnic lunch and going to parks with the children. It meant sacrificing luxuries and experiences to pay down debt. But if you want to be in a better place financially for whatever reason (debt reduction, saving for vacation, car or other aspiration), try budgeting for a month. I guarantee you will not believe how much money will be remaining in your bank account. And you will eventually realize you don’t miss a lot of that stuff.
Following a plan like this definitely means changing your spending behavior and creating new habits. But they are lifestyle changes that will benefit your family.
I want to share the top pieces of advice I can give you and what worked for us.
1. Prepare and plan expenses as much as possible and look for ways to change spending habits.
I know many people will look at this article and shake their head, thinking they can’t always predict their expenses. Believe me, I have been there. My advice is to do your best. Review expenses over the past year and consider the musts, nice-to-haves and possible cuts.
Examples of musts will vary across families. If you know you want school pictures, budget that in September. Halloween is always Oct. 31. You know you will need to buy costumes for kids and extra candy for trick-or-treating or other school events. Plug in a birthday gift fund especially at a popular time of year; for us it’s the fall. Budget Christmas and holiday gifts for all those you for whom you plan to buy gifts. It’s not always easy, but you can at least try.
You can also look to change habits to save money. A key thing for us was to examine our grocery spending. We began to do serious meal planning using our grocery store’s weekly ad flyer and seeing what purchases gave us the most flexibility on meals for lowest price.
2. Plug in spending money.
This is a personal tactic we used when we decided to assign part of our budget to what we call “mad money” – cash for you and your partner to spend on “frivolous” expenses without judgment or blame. This allows each of you to have a degree of flexibility too. For some families, this may not be possible, but if you can, it can be as little as $20 per month or per paycheck per person. For some families, they may be able to afford $100. This means that once your cash runs out after a few coffees and a lunch, you are done for that time period. You don’t get more cash until the next paycheck. That worked for us and allowed a small degree of flexibility.
I will tell you that when you are bound by cash, it is way easier to not spend frivolously. Studies have shown that people are less likely to spend more money when they use cash.
3. Put your credit cards away and don’t touch them.
Don’t talk to me about cash-back benefits, travel miles, rewards and so on. If you are in debt to credit cards, you don’t need to be using them. As a family, we have decided we will never use them again, but others may choose to begin to use cards after they have completed their financial freedom. I warn you to tread carefully, though. It is easy to put yourself in a similar hole quickly.
4. Have monthly budget meetings and be honest and willing to compromise.
Each month, meet with your partner (or yourself if you run your own budget) and discuss each month’s anticipated expenses. Be honest and willing to compromise to make the most of your money.
5. As soon as you have finalized your budget, begin attacking debt.
We followed the debt snowball. When you use this method, you begin throwing all of your money that is not paying bills to pay off one debt. As each debt gets paid you will find yourself feeling more accomplished.
How to Get Out of Debt Using a Debt Snowball
1. List your debts in order from smallest total payoff balance to the largest.
Don’t worry about the interest rate, unless two of the debts have a similar payoff balance. In that case, pay off the one with the highest interest rate first.
2. Get your debt snowball rolling by paying as much as you can on the smallest balance.
Only make minimum payments on all the other debts and put everything you can into the first debt. When you knock one out, cross it off. This will show you how close you are to becoming debt-free and keep you fired up!
3. Once you’ve paid something off, move on to the next debt on the list.
As the payments roll over, watch how fast your payoffs grow. You can be out of debt sooner than you think.
Written by Tracy Wright