Money with your Honey | Part Three: Budgets
Welcome back to our journey through family finances! So far we've looked at one of the most important parts of Financial Planning: Cash Management. Budgets, emergency reserve savings, family discussions all = really fun stuff!
Today, we are going to talk about the inevitable destination for your family if you don't prioritize Cash Management: DEBT. Let me start by saying that debt is serious. It's nothing short of a parasite stealing from your family. Yes, there are different kinds of debt which we'll get to, but you must adopt the right attitude about debt. This article isn't recommended for those who are apathetic or "don't mind" their debt. It's for those who recognize the danger that debt brings their family and for those that want it gone, for good. If you're already in debt, so be it, what you do from here on is what's important. Start by changing your attitude to that of a debt-hater.
Admittedly, it can be difficult to have this mentality when many of our peers embrace debt to fund their lifestyle. 38% of American households have recurring credit card debt. For those that have credit card debt, they average more than $16,000! Yikes. I want you to be different. I'm a Dave Ramsey SmartVestor Pro and love how he describes those with an aversion to debt as being CRAZY because deciding to live without debt is truly countercultural. But, it's a required step towards financial freedom.
It's really easy to show you why, from a financial standpoint, debt is a drain on your family. But the impacts of debt on your relationship are just as severe. Debt can make us turn against our partner. Let me share a common story with you:
Partner #1 brings in more debt to the relationship than Partner #2
Partner #2 blames Partner #1, makes derogatory remarks reminding Partner #2 the debt is their fault
They say "we don't communicate well about money" (imagine that!) and money becomes a sore subject
The communication gap widens and debt continues to grow
The most important thing that I see from couples who are successful in managing their debt is that they treat it as "OUR" debt. It doesn't matter who brought it in because both parties are committed to working towards it. Blaming will only stifle progress. Even adjusting your language when speaking about the debt with your partner will make them feel loved and show that you're committed to working with them to pay it off.
So now you're both on the same page: we want the debt gone, it's now "OUR" debt, and we're ready to work together. What's the best way to do it?
First off, acknowledge the facts. What types of debt do you have(credit cards, loans from family, second mortgage, student loans, auto loan, etc.), the amount you owe on each, the interest rates in each debt, and the minimum monthly payment for each.
Next, order them by size of balance. I recommend starting with the low-hanging fruit first i.e. the smallest balance. Any free cash flow that can be used towards paying off debt should be allocated towards the smallest balance first. While you're doing that, pay the minimum payment on all the other loans. Before you know it, that smallest debt will be paid off. You win because:
1) because you made quantifiable progress towards your goal, and
2) you've now have freed up the minimum payment from the debt you just paid off.
Now, take that minimum payment you no longer are responsible for and apply it towards the next smallest debt. Repeat until you get through all your debt and make sure you celebrate each victory with your partner!
Note that this is not actually the quickest mathematical way to pay off your debts. Then why am I recommending it? Based on my experience coaching families, I've found that people make more consistent progress because they get to celebrate the little victories of eliminating a debt. Those victories help to keep you committed which is why this is my recommended debt-payoff method.
"Good" vs. Bad Debt:
Let me start by saying that no debt is "good" to have because it means someone has a level of control over you and you're dependent on them. The ideal plan is to be 100% debt-free. But, certain debts are more harmful than others and should be prioritized first. Here is the order that I advise paying down the most common types of debt:
Credit Cards: #1 on the list are credit cards because they are the most toxic type of debt for your family's finances. They have egregiously high interest rates and the "minimum payment" is set so that you will never pay it off. The odds are completely stacked against you. Credit cards are so profitable for companies that they do everything possible to get you to keep using them such as rewards points, bonus miles, cash back, etc. Unless you are paying off your entire balance each and every month, you lose. Another scheme I hear all the time is the "0% for 12 months" arrangement and then transfer the balance to another card after 12 months. I have a simpler solution for you: JUST PAY OFF YOUR DEBT.
Loans from Family Members: We're all here because we want to know how to better love our partners and be loving family members. Borrowing money from family can quickly jeopardize that. The interest rate and payback schedule of family loans can vary greatly but that's not why you should prioritize them. I advise paying back family members as soon as possible to prevent the possibility to family feuds over money.
Student Loans: You went to school, got your degree, and are now hopefully putting it to good use and earning a healthy wage. Why should the loans that got you there stick around? Student loans are pesky and they provide great sense of relief when paid off which is why I put them second on the list. The interest rates on these loans aren't outrageous between 4-7% but the structured payments that they give you can last you 20 years depending on which repayment option you pick! Try running a student loan calculator to 1) see how long it will take you to pay off your loans at your current payments and 2) how paying extra on them can help you pay it off sooner. My favorite simple calculator can be found here --> http://www.bankrate.com/finance/student-loans/how-long-to-pay-off-student-loan.aspx
Auto loans: Auto loans tend to have a fixed term (3-6 years) and generally carry a reasonable interest rate (because if you stop paying, the lender has something to go after i.e. your car). The better solution is still to buy pre-owned and pay cash by saving over time (eh, eh, cash management?). As long as you keep making your payments, it will be paid off by the end of the term and you will have an asset to show for it.
Mortgages: A mortgage should be the last debt that you worry about paying off because, quite honestly, there are many advantages of having one. Don't hear me wrong, a mortgage is still debt and you should aim to have it paid off, but considering mortgages tend to be larger dollar amounts and will likely take a while to pay off, there are other goals to worry about like investing for your future retirement.
I challenge you and your family to be different by not relying on debt to fund your lifestyle. Can you imagine the stress that would melt away from being debt-free? Being in debt is like being in an underground hole trying to climb out. I want for you and your family to fill in that hole and build on top of it; to build wealth, limit the unnecessary stress of debt, and to strengthen your relationship while doing it. So get at it!
Written by Justin Rodriguez
Justin is a financial planner born and raised in Phoenix, AZ. Justin’s passion lies at the intersection of personal finance and people. He works alongside individuals and families to help them make prudent financial decisions so that they can have peace about their finances and become truly financially independent. He's happily married to his wife Allison