As you may have learned by now, there’s being in debt and then there’s being in debt. In other words, having some debt is good, while having a lot of debt can literally sink your family.
Most experts in personal finances say that good debt is debt that helps you buy something that will increase in value over the years. For example, a home mortgage is considered good debt because your house will appreciate in value. Credit card debt can also be good debt if you manage it responsibly. For example, you could use a credit card to buy an $800 sofa – if you know you can pay the $800 back within the next two months. In this case, you might pay $400 when your monthly statement arrives and the second $400 the following month.
In comparison, bad debt would be using credit cards to buy stuff that will decrease in value and where you have no plan for paying it back. Perhaps the biggest example of bad debt would be to charge up $2,000 for a vacation with no idea as to how you will pay it back. That vacation might be fun but it won’t increase in value and you could spend years paying for it.
How to know if you have too much debt
If you’re receiving threatening phone calls from your credit card companies, I don’t have to tell you that you have too much debt. But there is a sort of gray area where you’re not being harassed by debt collectors but may still be carrying too much debt. Fortunately, there is a formula that can help you determine if you have too much debt. It’s called the debt-to-income ratio. And it’s very easy to compute.
How to compute your debt-to-income ratio.
First, add up all your monthly recurring debts. This would include your credit card debts, rent or home mortgage payment, any personal loans, your auto loans and anything else where you are required to make a monthly payment. Then total up all of your monthly income, which if you’re typical will be your monthly earnings. Of course, if you’re lucky enough to have dividends from stocks or bonds or some other form of monthly income, be sure to include it. Next, divide your recurring debts by your monthly income. This will yield a percentage number. For example, if your monthly income is $4,500 and you have $2,700 in monthly recurring debts, you would have a debt-to-income ratio of 60%, which incidentally is way too high. In fact, most financial experts say your debt-to-income ratio should be 36% or less and, of course, the less the better.
What to do if you have too much debt
What can you do if you find you have too much debt? There are really just two alternatives. You can find ways to cut your debts or you can find ways to earn more money. For example, you could get a job working evenings or weekends or if you have the requisite skills, you could put an ad on Craigslist and offer to do odd jobs such as basic carpentry, building cabinets or doing electrical work. If you don’t have those kind of skills, you can probably find a lot of stuff lying around your house that you don’t really need or use and sell it on Craigslist or eBay and use the money to pay down your debt.
Consolidate your debts
An option that many people have used when they learn they have too many debts is to consolidate them into one monthly payment. For example, we’re confident that our debt relief partners can help you consolidate your debts and with an affordable monthly payment that will enable you to become debt free in a reasonable amount of time. In fact, if you are ever dissatisfied with the debt relief programs we recommend, you can cancel out at any time and without having to pay any penalties or fees.