6 simple steps to get out of credit card debt

If your credit card balance is getting out of hand, you need a plan to tackle your debt. Global News spoke to experts about how to formulate a simple game plan to get your finances back in shape. Here is what we heard:

Step 1: Cut up your credit cards

The first thing you need to do is “stop the bleeding,” said Douglas Hoyes, a licensed insolvency trustee at Ontario-based Hoyes Michalos. You can’t climb out of the debt hole if you keep digging yourself deeper and deeper into it. And while you don’t have to take your scissors to your credit cards, some find that actually cutting them up helps.

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Step 2: Free up some cash

Step two is coming up with more cash to throw at your debt. There are two ways to go about it, said Hoyes. The obvious one is cutting back your expenses. The Credit Counselling Society (CCS) suggests tracking your expenses for two weeks in order to spot ways to make room for extra savings in your budget.

The second way to come up with some extra money is to boost your income, said Hoyes. You could volunteer for overtime, become an Uber driver on the weekend, or take up dog walking, for example.

The end goal here is to come up with a monthly amount that you will devote to shrinking your card balance.

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Step 3: Make an inventory of your debt

Once you have a list of all your monthly expenses, you need a list of all your debts. “You’ll need both the amount you owe and the interest rate associated with that debt,” said Hoyes.

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Step 4: Prioritize

If you have multiple credit card balances, decide in which order you’re going to pay them off. There are two popular ways to go about this:

• Highest interest method. Focus on the card that has the highest interest rate while keeping up with minimum payments on all your other cards. Once your first outstanding balance goes to zero, use the extra money to tackle the card with the second-highest rate, and so on. This is the approach that works best, according to Hoyes.
• Snowball method. Another way to do it is to pay off the smallest balance first. While prioritizing higher-interest debt repayments is “mathematically correct,” some people find it psychologically helpful to start by concentrating their energies on what looks like a more attainable goal, according to CCS. Once you’ve crossed out your first debt, channel your savings toward the second-smallest card balances. “With the snowballing monthly payment this method creates, your debts will get paid down faster and faster as you go,” according to CCS.

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Step 5: Draw up a debt timeline

No matter the order in which you want to proceed, it’s also helpful to know how long it will take you to bring each balance to zero. Hoyes Michalos has a debt repayment worksheet (this link downloads an Excel Sheet) that can give you a ballpark idea of your debt timelines based on the monthly payments you can afford.

Don’t get too attached to your timeline, however. You may be humming along following your masterplan, when your car breaks down or you get sick and your income dips. These things happen, and you should expect them to, said Hoyes. So be flexible and be prepared to revise your debt deadlines.

Step 6: If you can’t repay your debt alone, consider a debt management plan or consumer proposal

If you do the math and realize you can’t manage your debt as it is, there are a few options. You could consolidate your credit card debts into a single loan or transfer your credit card balances to a low rate credit card. However, debt consolidation doesn’t seem to help most people regain control of their finances, according to CCS. Likely, that’s because it enables borrowers to stick to the spending habits that created the problem in the first place.

Refinancing your mortgage to consolidate your debts at a lower interest rate can be a similar psychological slippery slope. And new mortgage rules that came into effect Jan. 1 have tightened the eligibility criteria for this type of loan.

Instead, you could turn to a debt management plan (DMP) or a consumer proposal. A DMP is a service offered by non-profit credit counselling agencies like the CCS, which will negotiate with your creditors a lower interest rate on your debt and consolidate all your credit card payments into a single, affordable monthly payment. The plan may cost you a small fee, depending on your income level and what you can afford.

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A consumer proposal, on the other hand, is a legal process that is only available through a licensed insolvency trustee. While a DMP can only lower your interest rate, a consumer proposal, if accepted by your creditors and the courts, can drastically cut down the principal you have to repay.

Hoyes said in his practice, borrowers who successfully proceed with a consumer proposal typically see the amount they owe reduced to one-third of the original debt. Like a DMP, a consumer proposal will also consolidate your debts into a single monthly payment, but that will also include fees and taxes.

According to MNP, one of Canada’s largest debt consultancies, a consumer proposal offering payments totalling $20,000 would deliver around $13,600 to your creditors, with the rest going to taxes and fees, including a $1,500 initial fee for the trustee.

Both a DMP and a consumer proposal will affect your credit record. A DMP will be dropped from your record two years after you’ve repaid your negotiated debt, according to the CCS. For a consumer proposal, it will take three years, according to Hoyes.