It should be clear by now, that here at Money, Debt and Taxes we are big fans of paying off your credit cards. But when it comes to paying off your debt, it is amazing how much bad advice is out there, even from trusted sources.
Recently I came across an article on The Motley Fool website titled “9 Ways to Pay Off Debt”. As I read through the article I was screaming at my computer NO, NO DON’T DO THAT! So here is an abbreviated version of the Motley Fools’ suggestions, and my not so humble comments.
#1. Pay More Than The Minimum Payment on your Credit Cards
So far, so good. I have no problem with this suggestion. Unless you pay more than the minimum payment it could take you 10 years to pay off your credit card debt.
#2. Snowball Your Debt Payments
Still OK, in fact I am a big fan of debt SnowBalling. You can read more about debt snowballing at Wipe Out Credit Card Debt.
#3. Cash Out Your Savings Account
WHAT! Excuse Me? Is this the Motley Fool, or some hack. Why would you do that? The argument the Motley Fool gives is that savings accounts pay a very low interest rate. You “earn” a better rate of return by paying off a higher interest rate credit card, than you do by leaving that money in a savings account paying a lower interest rate. From a strictly numbers point of view that might be correct, but from a “learning how to manage your money” point of view that is a terrible suggestion. What do you do if your car breaks down and you don’t have an emergency account? An emergency account is an essential if you want to get out of debt forever.
#4. Borrow Against Your Life Insurance
I can’t tell you how many ways this is wrong. First, this is not a way to pay off debt. This is a way to transfer debt. Second, you can’t borrow against a term life insurance policy, so the Fool is assuming that you have a whole life policy. So you are going to borrow against your life insurance, you may not ever pay it back, so your beneficiaries will get less than you paid for. I am not fond of whole life insurance, but this just seems like one way to make a bad investment even worse.
#5. Finagle Family and Friends
The idea is you borrow money from family and friends to pay off your other debt. Once again, you are not paying off your debt, you are changing your creditor. This has to be one of the worst suggestions of the bunch. Money issues can be deadly for friendships and devastating for families. Don’t ever borrow money from friends or family. Not if you want to keep your friends and stay on good terms with your family.
#6. Get A Home Equity Loan
Sigh, once again we are trying to solve our debt problem by getting more debt. Plus, we are changing unsecured debt for secured debt. If you don’t pay off your credit cards you can ruin your credit rating. If you don’t pay off your home equity loan, not only do you ruin your credit rating, you can lose your house.
#7. Borrow From Your 401(k) Plan
Do I sense a theme here? Are we paying off debt, or are we just moving it? I know, if it is good enough for the US government it is good enough for you. So if you borrow from your 401(k) plan, what is to stop you from just running up your credit cards again? Now, if you have been following all this foolish advice, you have tripled your debt, alienated all your friends and family, lost your home, and now you have no money for retirement. (Plus you’ve lost many of the tax benefits a 401(k) plan provides.) But that is OK, the fools have a plan for you…
#8. Renegotiate With Your Creditors
Yes, your creditors will love you when you call them up and say you can’t pay. They will be so excited to lower your interest rate and maybe even forgive some of the principal. You could even call one of those “Secrets The Credit Card Companies Don’t Want You To Know” companies and totally destroy your credit rating. But that won’t matter, you have to fools to advise you. Next step please…
#9. File For Bankruptcy
News Flash, this is not paying off your debt! This is forcing your creditors to accept little or nothing for the debt you have incurred. In very rare circumstances, bankruptcy is the only option, but for most people, learning how to manage their money will enable them to pay off their debt, save their credit rating, and avoid bankruptcy.
I am afraid I have lost a whole lot of respect for those Motley Fools. Of their 9 Ways to Pay Off Debt, only 3 are actually ways to pay off debt, 4 just transfer the debt to a different creditor, and 2 involve forcing your creditors to accept less than you owe.
As one commenter mentioned, paying off your debt is really simple. There is no magic formula. You just need to do two things. Make your debt payments, and pay for everything with cash. Whatever you do, don’t be a fool and follow the advice of the Motley Fool.
If you are serious about getting out of debt I highly recommend Dave Ramsey’s Book The Total Money Makeover. It helped me to become debt free and has changed the financial future of thousands of people.