## How to Pay Off Your Debt Without Learning Math

April 21, 2012

Let’s start at the beginning: FV = PV(1+r)n

Just kidding…

There are two things for which law students are stereotypically well known: hating math and graduating with a lot of debt. If both are true for you, then I may have recently been within earshot of you saying something along the lines of “I have no idea how I’m going to pay my debt off when I graduate” to your friend. Fortuitously (don’t you just love the thesaurus?), I happen to be one of those people who likes math and hates debt. As such, I’d like to share some tips on paying off your debt.

Step 1- Review Your Debts: For most of us, our debt after graduation will consist of credit card bills and student loans. The review process is simply a way of figuring out what you owe, and to whom. I suggest this format:

Owed to:                        Amount                        Interest Rate

School                             \$100K                               5%

MisterCard                      \$5K                                  12%

Shack’s Sixth Ave            \$300                                 19%

Once you’ve done this, you’re ready to begin.

Step 2 – Ask for Lower Interest Rates: As a general rule, lower interest rates are always better than higher interest rates. This is because for each period that interest accrues on your debt, it accrues on the entire amount you owe. So, if you owe \$100 and you have a 10% interest rate, at the end of the first period you will owe \$110, and at the end of the second period you will owe \$121. Change the interest rate to 5% and you will owe \$105 at the end of period one and \$110.25 at the end of period two. As a result, if any of your banks lower your interest rates, you will be able to pay off your debt faster because you will have less interest to pay off.

The procedure: Call the number on the back of your cards and just ask. It is entirely possible that they will say no because banks have been less willing to give favorable rates since the financial crisis. If they do say no, feel free to explain your situation (law student, trying to pay off debt as quickly as possible, etc.), and ask again if there is anything that either the person you’re on the phone with or their supervisor can do to lower the interest rate on your card. I understand that it may be uncomfortable to ask this way, but sometimes a company will put a policy in place that says they will only offer a product after a customer has asked to speak to a supervisor. By asking to speak to a supervisor and making the request to that person (if needed) you can be sure that you’ve done just about everything you can to lower your interest rates.

I say “just about everything” because –

Step 3 – Investigate Balance Transfers: You may have seen these before – fake checks in the mail, offering you lower interest rates on balances. There are two ways to receive these: one is if your company is already sending them to you. The other way is to request them from your credit card company. If you choose to ask your credit company, always ask to receive the information in the mail. This will allow you to review the terms and conditions so that you can decide for yourself whether using the balance transfer makes sense. For example, transferring \$400 then paying \$12 to make the transfer makes no sense if you were going to pay off the \$400 two months from now. A balance transfer may also make no sense if the interest rate is scheduled to change to more than what you’re paying now. Because situations vary, you may or may not wish to pursue this option.

However, you will want to –

Step 4 – Consolidate Your School Loans: If I understand correctly, BLS’s financial aid staff covers this in detail before you graduate. The purpose of consolidating your school loans is simple: one lower payment. Less work, and less money you are required to spend every month. Go for it.

Now that you’ve gotten the preliminaries out of the way, you will want to –

Step 5 – Review Your Debt Again: After the first four steps, the picture may have changed. Therefore you should make the appropriate changes. You should also add on a new column, so that it now looks like this:

Owed to:   Amount       Interest Rate    Minimum Payment

School         \$100K           5%                       \$1000

Shack’s        \$300             10%                      \$25

MC              \$5K              11%                      \$100

With the preliminaries out of the way, you are now ready to pay off your debt. But how?

Step 6 – Pay off the Highest Interest Rate First: If you’ve made it this far into the article, I suspect that you’re one of those people who don’t like math. Therefore, out of respect, I won’t use any formulae. However, paying off by interest rate is mathematically the fastest way to accomplish the goal of paying off your debt. Here’s how:

1. Pay the minimum due on all of your debts.
2. Pay the minimum plus any extra money you have to the debt with the highest interest rate.
3. When that is paid off, use the entire amount you were paying to the debt with the highest interest rate, and apply it to the next debt.
4. Repeat until debts are paid off.

If you look at my list, you’ll see that Shack’s is only \$300. Honestly, I know it’s not mathematically correct, but I’d just pay it and any other small amounts off right away because it’s such a small amount and devote that \$25 to the MisterCard bill.

Okay, so you’ve committed to this course action – what’s next?

Step 7 – Pay Your School Loan Biweekly: School loans, car notes and mortgages work a little different from credit cards, and you can use this difference to your advantage. You don’t have to call the bank. You don’t have to make any special arrangements. All you have to do is look at the monthly payment (here \$1000) and start paying half of it every two weeks. Many of us get paid every two weeks, so it should be relatively easy. Why would you want to do this?

• The total amount that you pay over the life of the loan will be lower.
• You will pay off your loan faster. Paying biweekly turns a ten-year loan into a nine-year loan, and a 30-year loan into about a 17-year loan.
• You will be paying ahead. As such, your next payments will be lower, and eventually zero. And while you won’t have to pay, you should. Save not paying for an extreme emergency.

The reason all these things happen is by paying part of the amount due 15 days early, the amount of interest that accrues is lower, and more of your money goes to the actual loan. Additionally, paying bi-weekly causes you to make 13 months worth of payments instead of 12 during the year. So, if nothing else, by the end of the first year, you will be one month ahead.

Starting this process off can be a little tricky. My best suggestion is to pay 1 ½ months on the first due date. A week or two later, when your next check comes in, start paying that \$500. That way you can be sure you won’t accidentally get charged late fees.

You can actually employ this strategy with credit cards as well, but because they reset every month, you will not be able to miss a payment, and they will, of course charge late fees. The best trick to avoiding late fees here is to simply make all of your payments at least the minimum payment that you’re starting off with. So, if, as of today, your minimum payment is \$40, make payments of \$40 every two weeks. This way, you’ll never have to worry about that rare five-week month that throws everything off. However, this strategy is less effective if the card in question is your everyday use card. Don’t forget to make adjustments for how much you’ve used it during the month.

Once you’ve successfully paid off your debt, you will notice a few side benefits, specifically extra money to spend on dinner with an old classmate, and an increased credit score (which will help you secure a really low interest rate when you decide to treat yourself to a shiny, bright red Mustang). But, as with everything else, there are–

Things to Look Out For: While I sincerely hope for the best for everyone, life sometimes isn’t so fair. People lose jobs, get sick, get divorced, etc. Any of these can put you in a situation where you’re not able to pay off your debt. In the absolute worst case, the credit cards can be discharged in bankruptcy. Your student loans cannot. Therefore, if you find yourself with reduced income or no income, here are a few things you should know.

• The advantage of paying ahead is limited to how far you’ve paid ahead. Keep track of how far ahead you are, so that you know how long you can go without making a payment.
• Before your cushion runs out, find out whether you are eligible for forbearance or deferment. Currently, Stafford Loans and Perkins Loans may be deferred for up to 3 years if you cannot find full time employment, or are otherwise suffer from economic hardship. They are also deferred if you go to school at least part-time. However, you must keep making payments until the deferral is granted.

Granted, if you are going through the stress associated with unemployment or lowered income it may be hard to remember that these options are available to you. But, the consequences for forgetting that these options exist are far worse. If you do, in fact, default on your loans, the following things may happen, as explained by FinAid.org:

• Your loans may be turned over to a collection agency. If so, you’ll be liable for the costs (such as attorney’s fees) associated with collecting your loan.
• You can be sued for the entire amount of your loan.
• Your wages and income tax refunds may be garnished.
• Part of your Social Security payments may be withheld.
• The default will appear on your credit history for up to 7 years after the default claim is paid.
• You won’t receive any more federal financial aid until you repay the loan in full or make arrangements to repay what you already owe and make at least six consecutive, on-time, monthly payments.
• You will be ineligible for assistance under most federal benefit programs.
• You’ll be ineligible for deferments.
• Subsidized interest benefits will be denied.
• You may not be able to renew a professional license you hold.
• You may be prohibited from enlisting in the Armed Forces.

And of course, you will still owe the full amount of your loan.

Epilogue: If you’re a non-math person, I hope you find this information useful. I wish the all the best in life for my graduating friends, including the hope that you can use your paycheck for something other than paying off debt as quickly as you possibly can. Of course, there’s always –

Option 2: Marry a Millionaire

Writing for The BLS Advocate (and a few of my friends) has inspired me to start a blog. Check it out at www.blindedbycolor.com.

[CC Image by (RambergMediaImages) via Flickr]

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