A Comprehensive Overview of the Different Types of Debt
If you have a credit card, you are already more likely to have debt.
Total U.S. consumer debt is at $13.86 trillion
and
on average, each household with a credit card carries $8,398 in credit card debt.
While debt is not necessarily a good thing, you should rest easy knowing that you are not struggling with this alone. Plus, some good news on this front: According to the Federal Reserve Bank of New York,
Americans have less debt for the first time in six years, as they spent less money during the pandemic lockdown.
While this is a good sign, it may not be a good indicator for the future, since once everyone is back to their normal routines, they will probably get back to their normal spending routines as well.
It's a good thing that you are here, to understand your debt and learn what you can do about it. The first step is always education, and it is always a positive sign when someone is proactive about informing themselves about important topics regarding their finances, such as how to handle debt or how to build a budget (even on a low income).
There are many types of debt, and before you can make a plan to get out of debt, you need to know what types of debt affect you. I will outline some of the most common types of debt here.
Credit Card Debt
According to Debt.org, almost 190 million Americans have credit cards, and "the average credit card holder has at least four credit cards". So if you have a credit card -- or more than one credit card -- then you are in the majority. Unlike in many European countries, where some cities you visit will accept almost exclusively cash if you go to a restaurant or small store, credit cards are sometimes more accepted than cash. (Though in some places that are trying to go cashless, there has been pushback due to discrimination against people without credit cards.)
Credit cards can be great. They're so convenient, especially with all of these new contactless credit card options. You can even earn rewards depending on what types of credit cards you have. You can even get travel credit cards if you are a big traveler. Below you can take a look at some of the best credit card options and pick the one that works best for you:
The downside is that they're too convenient and cause people to act impulsively, and credit card companies use that against individuals to keep them in the debt cycle. While using credit cards can help you build -- or even rebuild -- credit, it is important to use your credit cards responsively, so that you do not end up with piles of credit card debt. During the pandemic, credit card debt and spending have greatly decreased. If this is also true for you, then take advantage of this situation to continue chipping away at your credit card debt.
Student Loan Debt
If you are like me, you have a lot of student loan debt, and that's after working part-time jobs throughout my entire college career, as well as receiving some scholarships and grants which did not need to be paid back. It is very unfortunate that getting higher education in the United States oftentimes means accumulating a lot of student loan debt along with it. While a higher degree makes it likely that you will get a higher salary, that is not guaranteed -- and certainly not guaranteed directly after graduation.
Student loan debt is one of those good-bad debts. While it doesn't feel good to have tens of thousands of dollars in debt, you do earn something very valuable with that debt. You have this debt in exchange for an education. Besides the higher chance for career growth and salary, an education in itself is invaluable. My grandfather always told me: "No one can ever take away your education." In a family like mine, with only three people -- me and my parents -- having gone to university, getting a degree is a symbol of greater opportunities.
That being said, if you are only going to college to make someone else proud or to prove something to someone else, then you should not be going to college. It is a huge waste of money to go to college if you do not even know what you want to do afterward and are not passionate about getting an education. You could at least start at a community college, where you get more personalized care and can get some prerequisites out of the way, and then you can transfer to another college -- if necessary -- to finish your degree. But starting at an expensive 4-year college is not necessarily the right path for everyone.
Besides, there are many other programs where people can learn technical or trade skills, which will also lead to successful careers. People push the idea that everyone needs to go to college, but that is not the case. If going to college is the right choice for you though, and you and your parents/family cannot afford the tuition, then getting student loans -- and thus student loan debt -- could be worth it, in your situation.
Mortgage Loan Debt
When you are purchasing a property, you will need to decide if you want to buy or refinance. Either way, you will probably need to get a mortgage loan, a property loan that you will pay back over time. According to the Federal Reserve Bank of New York, mortgage debt is actually the largest component of household debt, reaching a new high at the end of 2019 -- hitting $14.15 trillion.
Since mortgage debt is the highest component of household debt, you will probably have to deal with it at some point in your life. Unlike many expenses that can be cut out of your budget, everyone needs a place to live. So, while mortgage debt can be a burden, it is sometimes a necessary one. The most important thing is to be happy with the home you choose to spend your life living in.
Auto Loan Debt
Just like everyone needs a home to live in, most people in the U.S. need a vehicle to get to and from work. Because of this, it is not unlikely that you will need an auto loan to purchase your vehicle. If you are in this boat, then you are in it with millions of other Americans, since auto loans make up 9% of total consumer debt. While it may not be possible to forego an auto loan, you can find ways to at least limit the size of your auto loan, including looking for used vehicles instead of new vehicles, prioritizing which features are essential, and doing your research.
Business Debt
Businesses, just like people, can have issues with debt. Every type of business can have business debt, including sole proprietorships, partnerships, limited liability companies (LLCs), corporations, and S Corps.
If owning a business is your dream, maybe it is worth getting a small business loan and accumulating some business debt. It is important that you continue to be responsible and make sure that you have a plan. Don't just continue to borrow and borrow. If this is your passion, then it is worth taking some assistance if needed, as long as you have a plan on how to pay it back.
Understanding Debt
If you want to really understand your debt, then you should probably read Your Guide to Understanding Debt: Money 101 that Blaine wrote, since it really explains it all to you. I will tell you the most important things here though so that you can read Blaine's guide later when you have more time.
How Bad is Debt?
Well, this is really all up to you. Debt is neither good nor bad in and of itself. Like food or spending, debt is best taken in moderation. If you are ordering pizza once a week, then that is probably fine, but if you eat pizza every single day, then you may be overdoing it. On the other hand, if you are spending money shopping for clothes, for instance, every other month or so, then you should be fine.
But if you are going out shopping every time you get your paycheck, then you may be overdoing it. Finding the balance in life can be difficult, but that is why you practice and work towards doing better. Every time you consciously decide to forego the pizza night and instead eat a healthy, home-cooked meal, you are really working towards creating a better habit. The same goes with debt. Be conscious of when you have debt and how much of it you have, and don't let it get too excessive.
Don’t Let Yourself Drown In Debt.
The Debtry Shop Is Here for You.
Should I Stay Away from More Loans While I am Currently in Debt?
That depends -- do you really need a loan, or are you using a loan to cover up problems instead of fixing them? If you truly need a loan, then get it. In fact, in some cases, getting a personal loan may actually help your credit. On the other hand, if you are just covering up your financial problems with more loans, then you are not using loans correctly.
If you have no plan going forward -- whether it is a personal plan that will help you get back on your feet or a business plan that will help you finally turn a profit -- then you should stop and make one before getting a loan. Again, it is all about being conscious of what debt you have and what debt you are going to need to accumulate. Look at your circumstances and situation, and determine whether or not to get a loan based off of whether or not it is a good idea for you in your current situation.
How to Get Out of Debt
Just as there are multiple types of debt, there are also multiple ways to get out of debt. It will be a process, but it is better if you are proactive. Especially if you have tax debt and need to pay off IRS debt, you should take action and pay it off before you get a bank levy. If you are trying to find a way to get out of debt -- and fast -- then consider one of these methods below.
Create a Debt Management Plan
Before you can get out of debt, you need to understand your debt and create a debt management plan. It is important to first have a budget, and I have already written an article for you about effective budget management skills everyone should know. If you read my piece on effective budget management skills, you will learn about the different types of budgets, how to manage your own budget, and how to stick to your budget.
So if you do not already have one, build a budget now. A budget will help you see the big picture of your personal finances, including how your debts fit into this picture. Then, once you can see how your debts affect your personal finances, make a plan, and stick to it.
The Debt Snowball Method
As I mentioned above, the trick to the Debt Snow Ball Method is that the more you pay off, the more momentum you will get to pay off more. You start by paying the maximum payment on your smallest debt and the minimum payment(s) on the rest of your debt(s). Then, once you have paid off the smallest debt, start using the amount you used to pay off that smallest debt each month towards your next smallest debt. In this way, how much you pay on your debts each month will not go down, despite the fact that you are getting rid of your debts, one at a time. However, it does mean that you will be able to pay off your debts quicker, since you will be allocating more money to paying off your debts every month than you otherwise would.
This is basically how the Debt Snow Ball Method works. Imagine that your smallest debt is one of your credit cards that has accumulated $200 of debt. Say you pay $20 on this debt every month. Once you have paid this debt off, combine that $20 to your next smallest debt -- maybe a credit card with $300 of debt. If you were paying $20 off on this $300 credit card debt before, now you will pay $40 off it every month. This snowball method will help you get rid of your debt at a faster pace than if you always just paid the minimum payment on your debts each month.
Consolidate Your Debt
Debt consolidation does not just make your debt problem disappear, but it does make it much easier to deal with your debt problem. The reason it makes your debt problem so much easier is because it makes it simpler: Instead of dealing with multiple kinds of debt, which you have to pay off simultaneously but separately, you can consolidate, or combine, these different debts into one debt. This makes it less complex and easier to handle. You may even be able to get a better interest rate on your debt, which can save you a lot of money over time.
You may be thinking, "That sounds just too good to be true! Why wouldn't I want to consolidate all of my debt right this second?!" Well, that's true. There are a lot of pros to debt consolidation, but there are actually a few cons to debt consolidation. If you do consolidate your debt, you need to be wary not to just rack up new debt again.
While the peace of mind from debt consolidation is a positive thing, the peace of mind may make you forget what it feels like to be drowning in credit card debt and allow you to fall back into bad habits. Do not let this happen to you. Do not allow yourself to dig yourself into an even deeper hole. If you go for debt consolidation, be responsible going forward, so you can truly reap the benefits of debt consolidation.
Conclusion
There are many types of debt that may affect you in your everyday life, but there are many ways to handle debt. The first step is to recognize what types of debt you have in your life. Then, don't run away! Try one or two of my tips for getting out of debt, and take back control of your personal finances!