Now here’s a phrase you’ve probably heard in the finance world - ‘bad debt’. This kind of debt is essentially financial deadweight, because once you’ve paid your dues you’re left with something of little or no value to show for it.
So how do you figure out which debts are dragging you down the most, and more importantly, how to get out of it? This is where money expert, Kirsty Lamont from mozo.com.au comes in with three surefire ways to crush bad debt.
1. Rank your bad debt
Not all debt is bad! If you’re comfortably meeting the principal and interest repayments on your home loan for a house that is increasing in value over time you’re carrying “good debt”. Bad debt, on the other hand, might include an ongoing credit card bill, because you’re paying for the privilege to borrow money without the rewarding asset gain that comes with a home loan.
The key is to identify your bad debts and rank them in order of how much interest you’re being slugged with so you know which to tackle first. This means taking into account not only the principal sum you owe, but the interest rate too - you’d be surprised at how much hefty interest rates can drive up costs. For example, if you have one credit card with a balance of $3,000 at an interest rate of 12% p.a. and another plastic with a $2,000 balance at 21%, the first would cost you $720 in interest over a two year period while the second would cost you $840, meaning you’d be better off paying off the smaller credit card bill first.
2. Avoid all interest if you can
Our credit cards often get us into trouble. We know this because, according to the MoneySmart debt clock, Aussies are collectively carrying close to $33 billion worth of credit card debt! Wouldn’t it be great if you could avoid interest altogether? Well, in some cases you can.
If plastic is the primary source of your bad debt, transferring it to a 0% interest balance transfer credit card can give you an interest-free period to attack the principal sum and buy you some breathing room. In fact, among the cards listed on Mozo’s database, 0% balance transfer periods can last as long as 18 months without a transfer fee. Just make sure you have a plan to blast your debt by the time the interest free period ends or you’ll be stuck paying interest at a steep revert rate on the remaining balance.
3. Reduce bad debt by refinancing
Refinancing your personal loan is one of the smartest moves you can make to reduce bad debt this year. Sure, that interest rate you nabbed six or twelve months ago might have been low at the time, but it’s important to keep your eye on the competition. That way, if a better offer crops up you can switch loans to reduce the amount of interest you’ll have to pay over the life of the loan. For example, the lowest interest rate attached to a car loan in Mozo’s database dips below 5% while the priciest interest rate sits at a lofty 17.57% - so chances are you could score a better deal just by shopping around.