How to Pay Off Credit Card Debt

When a person finds that they are stuck in a credit card rut they often wonder how they will ever see the light on the other side. I have two answers to the question, and I have put both in practice in the past. Here is option #1, and my story to go with it. (For explanation purposes.)

1. Obtain a small personal loan to pay off your balances.

My first car was on a cash advance taken off a credit card. I was 18, had a 9-month-old baby, working two jobs, and zero cash. $3,000 covered the price of the car, tax, tags, title transfer, and my new insurance policy.

After paying the minimum payment of $69 for two years I still owed almost $2500. With a strong co-signer I took out a personal loan of $3,000 at 7%. Slicing my interest rate by 11%.

My payment went up to about $97 per month, but that was easy to make up with just one less restaurant meal a month. The upside was that in three years the loan was paid off. At the rate the credit card was going I would have been paying on it for 10 years.

If a personal loan isn't feasible for your situation, or you are unable to obtain one due to the present economic crisis, there is another option.

2. Follow the following steps to pay off your credit cards.

(We are going to assume that you have 5 credit cards all with minimum payments of $50.)

a. Sort your cards first by interest rate, and then by balance. Keep the highest interest rate with the highest balance first.

b. Your total monthly payments are $250. Budget $325 toward credit card payments per month.

c. Pay the minimum plus $5 on each of the 4 cards that are not in the top interest and top balance slot, thus bringing your payments to $270 so far.

d. Take that top credit card and pay the minimum balance plus what is left in your $325 budget, for a total payment of $105 per month and therefore doubling what your minimum payment is.

e. Congratulations you have paid off credit card #1 and are now left with 4 to deal with. Do not change your budget.

f. Continue paying the same amount on the bottom 3 credit cards.

g. Apply your $50 minimum to the top interest rate and highest balance card PLUS the extra $105 you have left out of your credit card budget from paying off card #1.

h. Two cards down, three to go. Again, continue paying the $55 on the bottom two cards that are left.

i. The top card will now have a payment made on it of $215. This is almost four times the minimum payment.

j. By the time you reach the final card you will be applying the entire $325 budget to the balance. Considering the last cards to be paid off are the lowest interest rate, you may even have one or two of them paid for before you get to change their new, higher budget.

There is a third option, although I do not personally care for it.

3. Transfer as much of the high interest rate card balances to the lowest interest rate credit card as you can.

a. This option will hopefully alleviate at least one credit card bill per month, leaving you with 4 credit card bills.

b. Follow the same budget and payment guidelines as Option #2.

The reason I do not like this option is because you are essentially using a credit card to pay a credit card. While in the end result is the same and you do pay less interest, it could be harder to break the credit habit if you have a large limit credit card to transfer old balances onto.

For tighter budgets, Option #2 will work with almost any dollar amount over the minimum payment. You can tailor the option to your specific needs, minimum payments, and budget.

After you have all the credit cards paid off, do not cancel them. This may sound funny as you are trying to get out of credit card debt, but there is a good reason.

Canceling a credit card will immediately lower your available credit to credit used ratio, and therefore lower your credit score. If you have a large amount of credit cards you should use your best judgment on what to do next.

I personally recommend keeping about three credit cards. Once a month charge a small amount on a card, such as gasoline. Every other month let the amount hit your credit report by paying it just before the due date. On the other months pay the credit card off 5 days early so that your debt to income ratio stays in balance.

Paying your payment 5 days or more before its due date will deplete the dollar amount reported to the credit bureaus as your current balance. Keep in mind that you do want a small balance reported every other, or even every third month.

Using this method you should not have a higher credit card balance of more than $25 per month, and it will only show on your credit report as such every other month. This practice will help to increase your credit score.

Keep in mind with this last practice that credit card companies will cancel credit cards that remain unused for long periods of time, often about 6 months. Going back to your credit available to credit used ratio, we do not want all of your credit cards to be appearing as closed accounts on your credit report.