Making a Plan to Get Out of Debt

Introduction: Making a Plan to Get Out of Debt

A woman is sitting on the floor looking at bills and receipts. © David Sacks / Digital Vision / Getty Images

Many people who have debt blindly make their minimum payments each month without a single thought about paying off the debts. Showing an interest in reducing your debt is a big step. Let one big step lead to another by finding out how to put together a plan to eliminate your debt.

When you're overloaded with debt, it can be difficult figuring out how to best tackle the debt. You have to figure out which accounts you should pay, in what order you should pay them, and how much you need to pay to eliminate your debt. By attacking each of these hurdles one by one, you can tailor a plan that fits your budget and debt load.

Calculate Your Total Debt

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To make a plan for getting out of debt, the first thing you need to do is figure out who and how much you owe. Start by getting a copy of your credit report. Your report will contain all of your financial obligations from institutions that report to the major credit bureaus. Your credit report might not contain all your debts, so you should also use recent statements from your creditors to complete your list.

Take out ​a piece of paper and write down the name of each creditor, total amount owed, monthly payment, and interest rate for your accounts. Or print this debt summary worksheet to list your debts. Depending on your goals for getting out of debt, you may want to consider only bad debt, such as credit cards and small loans.

Prioritize Your Creditors

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Once you have a complete list of your debts, you should figure out how you want to pay them.

When it comes to the cost of debt, the best way to repay your debt is to pay off highest interest rate debts first. Rank your debts in order from highest to lowest according to interest rate. This is the order you’ll repay your debts.

As an alternative, you might consider paying off your smallest debts first. If your high interest debts also have high balances, you could end up paying on a single account for months before the entire balance has been repaid. Since smaller debts are repaid quicker, many people prefer to pay them first.

You should choose the method that will keep you motivated to pay off your debts. If optimizing your payments is most important, then the high-interest method is best. On the other hand, if you might become unmotivated by paying on a large debt for a long period of time, then the smallest debt method will be better for you. There may be one creditor you want to get rid of completely. In that case, pay off that credit card first. The goal is to order your credit cards and start paying them off.

Determine How Much You Can Pay

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Another crucial component of your plan to get out of debt is the amount you can afford to pay on your debt each month. To come up with this amount, you need to figure out your discretionary income. This is the amount you have for spending after all your financial obligations have been met.

Use your monthly budget to help you figure out what you're able to spend on debt each month. Total your income from all reliable sources including wages, alimony, child support payments, bonuses, or dividends. Then, subtract what you spend each month on required expenses, those items you need for survival. Required expenses include mortgage or rent, utilities, food, transportation, medical expenses, and your current debt (minimum) payments.

What's leftover after you've covered all your necessary expenses is the amount you can spend  on your debt. Don't forget to account for any irregular or periodic expenses that may pop up during the month.

Make the Plan

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Now you that know how much you will be spending to pay off your debt, you can complete your plan. Put all of your debt-spending money towards your highest priority debt. In most cases, this will either be your smallest debt or the debt with the highest interest rate. Pay the extra amount plus the minimum payment every month toward that debt until the debt has been completely repaid. Continue making the minimum payments on your other debts.

Once you've paid off the first debt, move to the next debt on your list. Use the monthly payment from the debt you just repaid plus the minimum payment you were already paying on debt #2 and put the combined payment toward debt #2 each month. Repeat this process until your debts have been completely repaid.

You can use a debt repayment calculator to figure out how long it's going to take you to pay off each of your debts. Plug in your monthly payment plus the interest rate to get the number of months it will take to repay a particular debt. Some repayment calculators let you calculate the repayment for a single debt while others let you put in several debts at a time.

Put Your Plan Into Action

The plan is just one part of getting out of debt. The next part - the part that takes the most time - is actually making the plan happen. If you've plugged your debt into a debt repayment calculator then you know it can take several months, even years to completely pay off all your debt.

Revisit and update your plan continually as you make payments on your debt. If your financial situation changes - for example when your income decreases or increases or you take on or get rid expenses.

Put extra money towards your debt as often as you can; the more you can pay, the sooner you'll be out of debt.

Don't be discouraged by setbacks - you may experience them from time to time. The key is to pick back up immediately and not get derailed by complications.

Here are some other resources to help you: