Reduction of debt should be at the core of your personal financial planning. Managing your debt is the first step towards planning your personal finances. Your debt could come in a variety of ways — your credit card payments, car loans, home loans, personal loans, informal loans, etc. Even before you consider insurance and investment, your priority should be to put your debt situation in order.
Manage your debt
An unwelcome situation in managing your personal finances is when your debt EMI takes away a chunk of your earnings. This not only puts curbs on your ability to spend but also in your ability to save and invest meaningfully. Debt is not only a form of financial stress on your liquidity and solvency but also a source of mental stress. The last thing you would want is banks following up with you regularly for timely EMI payments. Over the last few years investors have created income generating assets like equities, bonds and mutual funds. Obviously, all these investments are part of one’s investment plan and are tied to various goals. When your debt becomes unmanageable you are forced to liquidate your investments. That impairs your long-term financial goals like retirement, child’s education, etc.
Clear credit card dues
Credit card as a mechanism of debt is best if dues are paid in time as you can enjoy interest-free credit period plus many exciting offers on purchase. However, you should also understand that it can cost you around 35% per year if dues are not paid in time. Thus when you have surplus money, it is advisable to clear off credit card debt rather than bearing 35% interest charges on it.
Reduce debt burden
Imagine a chaotic financial situation with three personal loans, three credit cards and one car loan to worry about. You obviously cannot afford to delay payments on any of these. Instead, if you prepay part of these loans or reduce the number of loans outstanding, your task becomes a lot simpler. There is a great value in consolidation of debt.
Avoid personal loan
When you borrow via a personal loan or a credit card there is a hidden cost you may not be aware of. There are late payment charges, there are credit revolving charges and there is GST charged on each of these charges. When you add up, your effective cost of debt is much higher. That is why reduction of debt should be at the core of your personal financial planning.
Lastly, you need a good credit score to manage your finances. Whenever you decide to borrow in future, your credit score will be important. For example, banks will insist on a CIBIL score of 750 plus. Too much debt or being erratic on debt repayments can impair your credit score and therefore your future financial capacity.
The moral of the story is to focus on managing your debt before embarking on your financial plan. Nothing impairs your financial goals as much as high levels of high-cost debt.