It was so easy– even effortless— to get into debt. Why, then, can it seem so difficult– even impossible— to get out of debt? There are three answers, in short, on why debt payoff programs fail:
- Our economic system is “rigged” to get you into consumer debt and keep your there,
- Typically, they don’t consider your lifestyle, personal and family priorities, and individual financial circumstances, and
- Most debt management and payoff programs don’t teach sustainable, effective concepts.
3 Reasons Your Debt Payoff isn’t Working:
1. The System is Rigged Against You.
Yes, this sounds paranoid. So, let’s look at the bigger picture to see if it makes sense from a different perspective.
Lenders make their money by charging interest on funds they loan to you, so they want you to be in debt. Likewise, retailers earn kickbacks from lenders when you shop with their vanity-branded store credit cards. Stores, therefore, encourage you to apply for (and use) their credit cards.
To entice you to do so, both lenders and retailers offer gimmicks like promotional periods with deferred interest, cash back for purchases, etc. Likewise, both banks and stores collect data about your purchases, profile you, and target your buying habits to “help” you spend money. They make the required minimum payments low (typically 1% of your balance). But they charge high interest (up to 30%) monthly on outstanding balances.
As a result, your debt increases effortlessly month-to-month. Your balances increase with accrued interest charges, your cash flow gets choked and you find yourself struggling to tread water. Once you carry significant balances, your lenders have you where they want you… feeding them your money at the expense of your own lifestyle. It creates a vicious cycle that’s hard to break. Their systems are designed that way.
2. Most Debt Payoff Programs Act Like a Fad Financial Diet
Why don’t fad diets work? Because they’re not sustainable. And they’re not what you want to do. If you have to give up what’s important to you, it’s easy to get discouraged and quit. You’ve probably heard the typical complaint: “I lost weight, but as soon as I started eating again, I put it right back on– and more.”
Unfortunately, many of the Get-Out-of-Debt programs on the market work the same way. They encourage bold cuts to your spending, drastic measures to your lifestyle, and a cold turkey approach to self-deprivation. Depending on how much debt you carry, you may make a dent in your balances. But if it’s at the expense of your lifestyle, it doesn’t take long to throw in the towel. You can only “eat beans and rice” for so long. Most people give into temptation when their financial diet results aren’t clear and immediate.
Then, once you’re no longer following whatever program you’re on, it’s easy to over-compensate by falling back into old spending habits.
3. Most Debt Payoff Systems Leave Money on the Table
What does “leaving money on the table” look like? Here are a few examples:
- If you use a technique called “debt snowball”, you’re paying off your lowest balance first. Then once it’s paid off, you attack the next remaining debt with the lowest balance, etc. The idea behind it is to take small steps towards debt payoff, seeing results that keep you encouraged along the way. However, your lowest balance isn’t necessarily the one that costs you the most money every month in interest charges. In fact, depending on your household cash flow, while you’re paying your lowest-balance debt, your overall debt may be growing– outpacing your payoff progress due to interest charges accruing on your other balances. So, Debt Snowball is not always effective.
- If you cancel your credit cards, you may likely be (financially) shooting yourself in the foot. Why? Lenders assign interest rates based on your credit worthiness. When you cancel credit card accounts, your available credit goes down. This means your credit utilization ratio (your account balances compared to your overall available credit) goes up. When your credit utilization ratio goes up, your credit score goes down. This is all cause-and-effect. Why should you care about your credit score if you’re not looking to build more debt? Because your existing lenders periodically check your credit score to confirm your credit worthiness. If they see your credit score has dropped, they can (and often will) increase your interest rates, because you become a risk to them. So, canceling your credit cards can result in owing more interest each month, hindering your ability to get out of debt.
- Cash set aside in “budget envelopes” earns no interest. You’ve already seen how interest can work against you. It would be smart to use the same strategy to “bank like a bank” and earn interest on your cash, rather than letting it lose value in a desk drawer. Yes, your cash loses value over time due to inflation. That’s why $1.00 today doesn’t have the same purchasing power it did just two years ago. If your debt payoff program calls for you to put cash in envelopes to budget effectively, it’s costing you money because it’s not earning compounding interest for you in a high-yield savings account. As of the publishing date of this blog post, high-yield savings accounts are earning 2.5% to 3.5%. In other words, your cash could otherwise be earning money which could be applied to paying off debt sooner, and you’re leaving money on the table.
When it comes to becoming “money smart”, it helps to not only know what to do (or not to do), but also why you’re doing (or not doing) it. There are plenty more way that popular debt payoff programs fall short when it comes to leaving money on the table. Understanding them will help you avoid costly mistakes.
There’s a Better Way to become Debt-Free. And It Works!
Part of getting out of debt successfully is to learn how to apply your money effectively, rather than just blindly following a “recipe” or set of procedural steps. Another part of your debt-payoff success is being able to enjoy your lifestyle while you make forward progress. Your debt-free future depends on being able to apply some simple strategies to maximize your money’s payoff power while still being able to enjoy your morning latte (or whatever makes you smile day-to-day).
If you want to break the cycle and get ahead in becoming debt-free, your solution will be unique to your lifestyle and your financial situation. It won’t be a cookie-cutter, one-size-fits-all program. Your Debt-Free Future provides options. For details on sustainable and effective options available to you, learn more from a PSG Certified Debt & Wealth Coach™. Or, take The Financial Acumen Course® to improve your financial literacy.