Financial Education

Curing the holiday debt hangover

By Karen Von Der Bruegge, Chief Marketing Officer for Pioneer Services.

With the holidays over, many Americans are discovering that those presents under the tree have led to a mountain of bills in their mailbox. Even with a struggling economy, consumer spending in brick and mortar stores during the 2011 holiday season increased 4 percent from 2010, while online sales saw a 15 percent increase, according to Forbes.

For military families, paying down holiday debt can be vital since financial problems can affect security clearances and deployments. Add in the high cost of making minimum payments on credit cards, and the importance of managing debt effectively becomes even more important, no matter the size of the family or the debt.

There is a simple cure for this holiday debt hangover—all you need to do is take a few steps to help you recover from this past holiday season, and find ways to make sure you don't fall victim next year.

Paying off last year
What makes credit cards a hidden danger is the high cost of minimum payments. (The fact that, as CreditCard.com notes, the "average credit card debt per household with a credit card is $15,799," doesn't help much etiher.) And those payments are dangerous due to the time it takes to pay that debt in full and the amount of interest you wind up paying. For example:

If you had only half the average credit card balance (around $7,500) and your interest rate was 14.8 percent (the national average), it would take you more than 11 years to pay off, and cost you more than $3,200 in interest.

Even if you had an interest rate of only seven percent, that same $7,500 would still take you nearly a decade to pay in full and cost another $1,000 in interest payments.

And if you only had half that much debt ($3,2500) at 14.8 percent, it would take you nine years to eliminate it and cost more than $1,000 in interest.

In short, if you only make the minimum payments on your credit cards, you might still be paying for this year's holidays in the year 2022 ... or beyond.

One option people choose to reduce credit card debt is moving that debt to another credit card with a lower rate. Doing so is, however, just a short-term fix since if you move the balance to a “low-interest" card it can still take years to pay it all. Getting a new card might also prove difficult due to the poor economy—some banks have tightened their underwriting and increased rates and fees, all while decreasing credit lines (meaning you could only transfer part of the balance and, thus, just wind up adding one more bill to the pile).

Another way to pay off credit card debt is to get a traditional installment loan. While the monthly payments might be a bit more, they are consistent, and the payoff time is shorter. You'll also know exactly when the debt will be paid, something that cannot be underestimated. An installment loan can also add variety to your credit choices, a key component to a good credit score.

If your credit card debt is small, see if there is any way to pay off the card in full as soon as possible. And if you find yourself between “it's too much to pay off at once" and “it's not enough to justify a loan," try your best to pay more than the minimum payment each month. Doing so pays off the principal more quickly, and limits the amount of interest you are charged.

Regardless of how you reduce the balance or pay off your card, it won't mean much if you turn around and ring up more purchases. Once the balance is paid, only use the card once a month for small purchases ($25 - $100) and pay the bill in full before the interest rate grace period. This tactic will help maintain or establish a consistent and positive payment history, and increase your credit score.

Preparing for next year
Once you get a handle on this past year's spending, you should start planning for next year's holidays:

Spread out the spending—Make a list of everyone you give gifts to in a given year, what you want to buy them, and how much you want to spend (either in total or per gift). Then, keep that list with you each time you go out shopping so that you can buy presents as you find them throughout the year. The goal is to spread out the spending over time, instead of suddenly needing several hundred dollars all at once. It can also eliminate impulsive—and often costly—last minute decisions, and keep you prepared for unexpected bargains.

Holiday savings plan—If your bank or credit union offers some sort of holiday savings plan (e.g., a Christmas Club, or something similar) it's wise to take advantage of it. These plans let you save throughout the year (or at least part of it), are offered free of charge, and many don't have a minimum balance requirement. And all of them help prevent you from using debt for all of your holiday purchases.

Make something—Have kids make something from the whole family, bake some treats, or make something unique. The goal is creativity and cost-effectiveness, as well as a personal touch that makes the gift much more special.

Group gifts—Keep in mind those for whom a big present is on the horizon, and work with friends and family members to pool resources. The reason? A small contribution from several people is transformed into a larger gift when leveraging buying power.

Do something special—Offer to spend time with a recipient in a way that is meaningful. For a child, that might be helping build a snow fort after the first snow or spending the afternoon at the movies or in the park. For a grandparent, it might be helping with repairs around the house, planting flowers in the yard, or even just sitting and talking. A coupon for free "babysitting" is great for parents. Think creatively and you may find that spending an afternoon with someone makes them happier then spending money on them.

Make a donation to charity—For those who seem to have everything, one more "thing" won't mean much. But making any sized donation to their favorite charity in their honor would be a wonderful blessing and a special way to honor them. As a bonus, you can also get a tax deduction.

While these tips can be helpful, they won't mean much without financial discipline. It's important to make more than minimum payments, pay off or down your credit card debt, avoid those last-minute decisions, and find creative solutions to replace spending. If you do, it'll make the holiday celebrations that much more sweet

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