The Debt Rehab Kit

If you want to improve your wealth status, you must tackle your debt. Simply put, that means paying down existing debt, not accumulating more of it and learning to properly manage any credit cards.  Yet a recent study showed that 42 percent of Americans feel they have too much debt, and more than two in five credit card holders admit to engaging in costly credit no-no’s such as only paying the minimum each month, paying late fees or using cash advances from credit cards. “Most people are so busy paying back old debt, they’re not making sure they don’t get into the same debt situation again. Most are borrowing from Peter to pay back Paul,” says Karen C. Altfest, Ph.D., a certified financial planner at Altfest Personal Wealth Management in New York City. Money spent paying off new debt can be better used investing in your future, increasing your emergency savings or retirement investments, which can ultimately increase your net worth.

Learning to properly manage your credit means you can qualify for lower interest rates and boost your credit score. To get your wealth factor in the right territory, we’ve put together a smart guide to managing credit cards and debt.

1|Know Good Debt from Bad Debt: “Good debt is money you owe that has been invested in your future; bad debt is money you owe for things now. Optimal debt is zero debt,” says Shannon Brightman, a certified financial planner at Morgan Stanley Wealth Management. “You should not borrow more than you can pay off with a 15-to-20-percent interest rate. And if your debt payments start to rise above 20 percent of your monthly income, then you are in too-much-debt territory,” she adds.  Know your credit score and what potential lenders see on your credit report. Once a year, go to annualcredit.com and receive free credit reports from consumer credit-reporting bureaus Equifax, TransUnion and Experian.

2|Credit cards: Many people use their credit cards to pay for living expenses they can’t afford to pay for with their general income without thinking of the interest implications of each card. According to Altfest, no one should have more than two or three credit cards, such as a bank card and one or two other cards, max. You definitely want to limit the number of store cards you have. “Creditors look at numerous store cards as just open credit, and store cards usually have higher interest rates,” she says. Instead, make sure you aim to have only single-digit interest cards.  When paying down debt, pay off the credit cards with higher interest rates first. Consider retiring some of your cards by rolling over the balances to a lower-rate card for at least one year. And before applying for any new cards, ask yourself, ‘Will what I’m buying last as long as the debt I’m taking on?’        

3|Auto loans: Sign up for the shortest-term loan you can afford so your interest will be lower. The longer your term for a car loan is, the more you will pay in interest. Try to keep the loan at or below a 10-percent interest rate, Altfest says.

4|Student loans: Students should also be savvy consumers. Look for loans with the lowest interest rates and flexible repayment plans. “Many students aren’t aware of loan forgiveness and postgraduate employment programs that can be a great tool to avoid student-loan debt,” says Brightman. The Public Service Loan Forgiveness Program (for more information, visit finaid.org) provides forgiveness of federal education loans after 10 years of full-time employment in public service. The borrower must make 120 payments while the loans are in the Direct Loan program and while employed in public service. At the end of the 10-year period, any remaining outstanding principal and interest are forgiven. Learn more about loan forgiveness programs at the U.S. Department of Education website studentaid.ed.gov.

5|Mortgages: Low interest rates make it a good time to refinance your home, if you qualify. If you have an existing mortgage, Brightman advises making 26 instead of 24 annual payments. Check to ensure you won’t be penalized if you pay off your mortgage loan earlier than anticipated. “Paying off your mortgage loan reduces stress and improves your credit score,” she says.

6|Credit Counselors: If you believe seeking a debt consolidator is your best option, make sure the company is reputable. The National Foundation for Credit Counseling, a nonprofit agency (debtadvice.org),  will put you in touch with a knowledgeable credit counselor in your area.