Tuesday, October 21, 2008

Four Ways Not to Get Out of Credit Card Debt

If you are up to your chin in credit card debt, you know that it's an unpleasant feeling. Getting out of this situation and becoming debt free is definitely advised and is a prudent course of action. However, as with any type of remedy, there are good ways and bad ways to go about the process. And, the bad ways are often dressed up as a quick fix and often can cause more problems than they fix.

Below are four common, but rather ill-advised ways often pitched to consumers (or represent things consumers resort to) in order to eliminate credit card debt and become debt free:

  1. Get a quick home equity loan and pay off everything! Ah, if it were only that simple. Yes, home equity loans can be relatively fast compared to a full-blown mortgage loan, but there is a price to pay. Especially, in terms of origination fees, points and other costs that usually aren't disclosed until you are well into the process. And, this isn't the real reason it's a bad idea to go this route to clear your credit card debt. The real reason is that it's a crazy idea to put your house on the line in order to deal with the symptoms of a problem when the real problem is one of lack of discipline. If you don't deal with the underlying problem of living within your means you will end up right back where you started, but this time you can add the second mortgage payment to the list of bills you have to pay.
  2. Rob your 401(K) or other retirement savings. This should obviously stand out as a particularly bad idea, since anytime you touch tax-advantaged retirement savings you get dinged twice. First, you will experience the pain of paying a 10% penalty for early withdrawal and then you will get taxed at your normal income tax rate for the amount withdrawn. For most people this will mean you only get to keep 65% of the money you withdraw to pay off credit card debt – not so good.
  3. Take a cash advance on another card to pay off (or worse yet, make the minimum payments on) other credit cards. The expression "Robbing Peter to pay Paul" comes to mind with this one. For starters, taking a cash advance on a credit card is a very expensive proposition. There is normally a tasty 3% fee charged for these type advances along with very high interest rates (normally starting at 19.99%) that begin ticking away from the moment you initiate the advance. And, all the costs pale in comparison to the sheer madness of digging one hole to fill in another. Just say no to cash advances, period.
  4. Get a pay-day advance against your next pay check. Finance companies love to prey on the desperate straights of the working man, but this doesn't keep it from being doubly treacherous as a method for paying off credit cards. Payday loans are often priced at between 25% and 35% APR, and carry a withering host of fees. So, can you say "bad idea"?

So, if there are so many bad routes to becoming free of credit card debt, what represents the golden path? Well, it doesn't involve a quick fix, but it can be quickly effective at changing your credit card debt situation.

The first step involves a change of attitude. You simply must stop using your existing credit cards until you can get things under control. Resolve to live on cash and checks and, more importantly, live within your means. Cutting up most of the credit cards that you used to dig your debt pit is probably advisable as well. Keep one around for emergencies, but safely tucked away in a drawer.

Once this financial bleeding has been staunched it's time to go to work on whittling down that debt. Finding a good 0% APR balance transfer credit card can be a good next step. It's important to think of this credit card as a debt consolidation loan and not even plan to put the plastic in your wallet or purse. It's simply a place to park your balances at no interest in order to begin cutting it down to size.

Then it is simply a matter of using your income to pay down this credit card debt bit by bit until it is all gone. There – that wasn't so hard, was it? Well, it does take time and effort, but all it requires is a good strategy and some time tested tactics to become debt free.

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