Dig yourself out of debt

It may be responsible for countless sleepless nights, but personal debt has been a waking nightmare for many families who now find themselves struggling to keep their finances afloat.

It’s so tempting to bury one’s head in the sand and hope the finances will take care of themselves. The idea of sitting down and addressing the issue and working out an honest budget is a chore we’d all rather put off for another day. Yet, it’s so important to reject the ostrich approach, and to work within a realistic budget, to plan ahead. Solutions are available - and we offer you some general guidelines.

Draw up your budget

Your budget will highlight how much you can afford to commit to pay off your debts and where to save money. Start by working out what money is coming in and where it’s going. Collect your most recent bank statements and bills to help you fill in your budget accurately. You can use the Financial Services Authority online ‘Budget Calculator’ to help you, or print off the page and complete it by hand. Go to www.moneymadeclear.fsa.gov.uk, click on useful tools and scroll to budget calculator. The National Debt line also provides a free pack including help on how to work out a personal budget.

Debt Test

After calculating your budget, you can identify if you have – or are likely to have – problems with your borrowing. To do this, you can take a Debt test, one of which can be found on the FSA’s website at www.moneymadeclear.fsa.gov.uk (click on useful tools and scroll to debt test). The debt test tells you how your finances would look to a credit rating agency, so, even if you have no debts at the moment, the results from your answers may highlight areas that need addressing.  If you want to take on a new debt, re-run the Debt Test as if you had already taken out the loan. That way you can fathom whether or not it’s worth while.

Dealing with debt

Rule One: don’t ignore debt. Instead, try to twist something positive out of the problem -there are ways to get out of the quicksand, no matter how much it seems to be sucking you down. Start by working out what it is you owe, and who to, before making a list of your debts in order of importance.

Priority debts: Priority debts are not always the largest debts, but they are the most important, as serious action can be taken against you if you don’t pay up. These include things such as mortgage repayments, council tax, rent, and taxes. If you don’t sort out these debts, you may lose your property or go to prison.

Non-priority debts: These include personal loans, credit card payments, car loans, store card payments, money borrowed from family or friends and catalogue repayments. What to do with your creditors: Once you’ve prioritised you debts, talk to the people you owe money to, explaining that you are having problems paying them back. Offer to pay off each debt in a realistic way - don’t offer to pay back more than you can afford. Back up your phone call with a letter re-iterating what was said and agreed.

• Never ignore any letters or court papers, and always attend court hearings.
  

Consolidating debts:

Instead of dealing with various debts, ‘consolidate’ them. A single, new loan will pay off several existing debts. This can be a good way of taking control of your finances, if you are careful to avoid a false sense of security. Be prudent and shop around for a consolidation loan to save you money.

A consolidation loan can:

• help you pay off your priority debts
  
• reduce your monthly payments
  
• allow you to pay a lower rate of interest
  

But be aware:

• over a longer period you could end up paying more
  
• you’ll usually pay extra charges for setting up and repaying the new loan
  
• your home will be at risk if you can’t keep up payments on a secured loan

Once you’ve consolidated your loan, be cautious. Don’t buildup new debts elsewhere. Cut up your credit cards so that you can’t use them and be aware that the lender may pressurize you to borrow more.

Making the most of your money - some ways forward

Words: Kirsty Woodgate