Samantha contacted me recently to ask how she and her husband could squash their $41,000 in credit card debt once and for all. She works as a media trainer for executives. Her husband works for the city government. Together they earn an annual net income of about $100,000 (after taxes, retirement savings and health insurance).
They more or less live paycheck to paycheck after accounting for all their bills and expenses. They have $1,000 in savings.
More about Samantha’s family: The couple has two kids, ages 10 and 14. Their children have various expenses tied to sports, activities and birthday parties, which Samantha says can really take a big bite out of their remaining monthly funds.
Here’s a snapshot of their top monthly expenses:
- Mortgage: $3,300 (including property taxes)
- Car payments, including loans, EZ Pass, insurance and gas for 2 cars: $1,500
- Groceries: $1,200 per month
- Credit Card Debt Minimums: $1,100
- Utilities: $630 (includes cable, internet, energy and water)
Here’s my four-step plan on how they can adjust their finances to tackle credit card debt to become debt-free in four to seen years and save another $7,500 (or more) over the next year for a rainy day.
Step 1: Get Organized. Consolidate Debt.
Part of their debt overwhelm is not just the hefty $41,000 balance. It’s the number of credit cards they posses: 11 cards in total. That means they receive 11 separate bills every month (at likely various times), which makes the debt very hard to track and analyze. It also makes it challenging for them to create a payoff plan. It may be why they resort to only paying the minimums on each card.
My advice: Consolidate all the credit card debt into one (or two) personal loan. The average interest rate on their credit cards is about 19%. Begin by reaching out to a local credit union or community bank to see if the couple can qualify for a personal loan for $41,000 and an interest rate at or below 19%. (The higher their credit score, the more likely they can qualify for personal loans with attractive interest rates.)
You can search for competing loan offers on Mint, too. Also, a new online lender on the market, Marcus.com (a division of Goldman Sachs) is promoting fixed-rate, no-fee personal loans of up to $30,000 for those who want to eliminate high-interest credit card debt. At LendingClub, a peer-to-peer lending marketplace, you can also apply for loans of up to $40,000.
Using this loan to pay off all their credit card balances, leaves them with 10 fewer bills each month. Even if they need to take out two personal loans (because $41,000 may be too high a loan for one bank to lend), it’s better than their current scattering of bills.
One thing to watch out for when applying for a personal loan: Some lenders may charge an origination fee of up to five or 6% of your loan balance, depending on your credit rating. Shop around and ask for fee waivers.
Step 2: Dedicate One Paycheck Mostly to Debt.
To further simplify the family’s effort to become debt-free fast, I suggest one spouse’s income be allocated towards the consolidated debt while the other spouse’s income cover most of the necessities. By dedicating one income stream to the debt, it’s again, easier to track.
Let’s pick Samantha’s husband, who brings home anywhere from $3,000 to $4,000 a month, depending on his overtime schedule.
If the couple can score a loan with, say, a 15% interest rate and a seven-year term, that equates to a minimum monthly payment of about $800 a month for Samantha’s husband. By allocating an extra $300 a month to the principal (for a total of $1,100 or what they’re currently paying), they can be debt-free in closer to four years.
With around $2,000 left in his monthly paycheck, Samantha’s husband can also contribute to groceries ($1,200) and utilities ($650). That leaves $150 for savings.With his overtime income (up to $1,000 per month), I suggest he funnel that also into a savings account.
Meantime, Samantha, who brings home roughly $5,000 per month, can dedicate her income to the mortgage ($3,300) and car payments ($1,500), with roughly $200 left over for savings.
Cash Savings: $350 – $1,350 per month
Step 3: Reduce Utilities & Food
Also, is there any way they can knock down food and utility expenses? (My recommendation is to nix cable. We did this a few months ago, but with an Apple TV, an $8 monthly Netflix subscription and loads of free apps, we don’t miss much. That move alone could save the family $200 per month or $2,400 a year.)
The family’s food budget currently eats up 15% or $1,200 of their take-home pay. But to live below your means, food budgets should amount to no more than 10% of one’s take-home pay. If they can stay below that limit, they could save $400 per month.
Cash Savings: $600 per month
Step 4: Budget for the Sometimes Extras
Using Mint’s budget meter, create a spending cap for other miscellaneous spending categories. From birthday gifts to sports team fees and equipment, keep a close eye on these expenses. From the $950+ in monthly savings the family may start to accumulate with my advice, they could ration out a few hundred dollars per month for these incidental costs and still end up with another $7,500 or more in savings within a year.
Finally, when their children can start working, encourage them to find summer jobs to help pay for their school year activities. That can also help the family save much-needed cash for their debt and savings.
Farnoosh Torabi is America’s leading personal finance authority hooked on helping Americans live their richest, happiest lives. From her early days reporting for Money Magazine to now hosting a primetime series on CNBC and writing monthly for O, The Oprah Magazine, she’s become our favorite go-to money expert and friend.