Keep-It-Simple Financial Planning (Part 2)
Last Week in Keep-It-Simple Financial Planning (Part 1) I shared the economic theory of utility, which says that people have an unlimited amount of desires, and only limited means to fulfill them. Is Debt bad? I shared the basic financial terms for understanding how debt works, and then we walked through a Net Worth analysis. This week we are going to start where we left off, and make a plan to get out of debt.
The first rule of financial planning is Do Not Go into More Debt. Plan to spend only as much as you bring in every month (or less). If you use your credit cards make sure new balances are paid in full each month. Credit cards become crutches and all too often we find ourselves not having enough balance on the card when a true emergency arrives. However, if you find it hard to wean yourself off the credit card, then make them hard to use. Wrap them in paper, and freeze them in ice. Or slide them in an envelope that gets tucked away in your filing cabinet. Because the cards are no longer accessible, you become forced to consider how you use your cards.
When planning for financial freedom, print out a copy of the List of Debts form to list all of your liabilities that are debts. Debts involve paying off balances, like credit cards, automotive loans, and Mortgages. Some debts, like automotive loans, and mortgages have set periods of time before they get paid off. Some, like credit cards, do not necessarily have a period of time that they will last. List the debt's name, The Annual Percentage Rate (A.P.R.), its balance, and minimum payment. This form lets you look at each loan you have as a whole and decide on a payment plan for each type.
Before you begin to pay the debtors listed on your form, consider how much you can afford to pay, and decide on the amount above the minimum payment that you want to pay. Spending a little more than the minimum balance for all your debt can help speed up the pay off of your loans. Now organize the debts from the one with the lowest balance to the one with the greatest. Doing so allows you to feel good about paying off your debts and helps to reinforce your plan. As the lower balanced debts become paid in full, you see how well your plan works.
Follow these Steps for each debt.
- Print off an Amortization Table.
- Enter your beginning balance.
- Enter your Yearly Interest Rate.
- Divide you Yearly Interest Rate by 12 to get your Monthly Rate, and Enter That in the Monthly Rate Box.
- Enter the Minimum Payment in the Minimum Payment Box.
- Enter 12 in Periods a Year for Monthly Debts.
- Multiply the number of years left by the number of periods this year,
if your loans have a specific number of years left, and enter this in the Periods in Loan box.
- Enter the balance as your ending balance in Period Zero.
- List the ending balance from the previous period as the beginning balance for
the current period.
- Enter your minimum payment into the Payment section.
- Multiply the beginning balance of the current period by the periodic interest.
- Subtract the interest from the payment. Put that value into Principle.
- Decide on an extra payment for the first loan, if applicable.
- Subtract the principle from the beginning balance, and subtract any extra payments youâ€™re going to make from the balance. This becomes your Ending
- Follow this process moving through periods in the loan until the loan reaches a balance of zero.
rate, and enter that into the interest section of the current period.
I have included a spreadsheet that shows how to do these steps at the end of this article.
As you pay off individual loans, add the payment from each of the loans that were paid off to the extra payment of the current loan. Once you have amortized each of the loans use the Debt Elimination Schedule, and enter the total payment amounts for each period.
Usually at the end of a loan you will have extra payment money left over. In that situation add that extra payment money to the next debt to pay off.
The final step is to print off the Debt Elimination Schedule. Now enter the names of each of your debts in the top row. Start with your first debt, and enter all of the payments for each period. Then do the second, and so on. Now add up each period's payments. The sum of each period should be the same, until possibly the last payment. Congradtulations! You have your get out of debt plan.
The Enlightenment gave us the philosophy that people should not be slaves. When we take on debt we become slaves to that debt. The bondage of debt ruins relationships, drives joy from our lives, and can cause us to lose our homes. When we free ourselves from it, we allow ourselves to pursue our interests, sleep easier at night, and secure both our home's and family's futures. Financial Security comes from living within our means and paying off all debt. Remember Debt is a tool. Do not abuse it and let it serve you well.