How To Reduce or Eliminate Debt

Among a mortgage, car loan, student loans, credit cards, and medical bills, debt can get out of control before you realize what’s happening. Whether your debt stems from a job loss, unexpected expenses, or overspending, it’s possible to reduce and eventually eliminate it. 

Tackling your debt takes time and effort, but combining strategies and staying consistent can help you successfully dig your way out of debt. Here are some tips to help you get out of debt.

Stop Accumulating Debt

This strategy alone won’t get you out of debt, but it will keep you from making it harder to pay off. Reduce your temptation to create more debt by taking a break from your credit cards or even freezing your credit.

Note

Freezing your credit locks your credit reports to new inquiries, making it harder to apply for new credit on impulse. This step is typically intended to minimize identity theft, but can also help you avoid opening new lines of credit (and creating more debt).

If you don’t have one already, now is a great time to create a budget. A budget helps you bring your spending in line with your income, making the most of each dollar that comes in and ensuring you don’t need to use credit cards or loans to make ends meet.

Build an Emergency Fund

Putting money in an emergency fund may sound counterintuitive if you’re trying to get out of debt—you could be using that money to pay off your debt instead of sticking it in a savings account—but an emergency fund can actually keep you from creating more debt. These savings provide you with a safety net you can use for emergency expenses, which saves you from reaching for your credit card. 

The ideal emergency fund holds six to 12 months’ worth of living expenses, but you can start by building up at least $1,000, or whatever you can afford to save.

Use the Debt Snowball Method

The less you pay toward your debt balances every month, the longer it’ll take to pay them off. Interest can exponentially expand the timeline for your debt repayment, and most debt balances rack up interest charges every month.

Many people find the debt snowball method to be a good way to pay down their debt. This method allows you to make noticeable progress by paying as much as possible each month toward your smallest balance. In the meantime, make the minimum payment on all your other debts so your accounts remain in good standing. Once you’ve paid off that smallest debt, move on to the new smallest balance, and continue this process until you’ve paid off all your accounts.

Note

The debt avalanche method is an alternative to the debt snowball method. Using this strategy, you’d start by paying as much as possible toward the debt with the highest interest rate. Once you had paid it off, you would move to the balance with the next-highest interest rate, and repeat the pattern.

Ask Your Creditor for a Lower Interest Rate

Higher interest rates keep you in debt longer because so much of your payment goes toward the monthly interest charge and not toward your actual balance. However, interest rates can be negotiable, and you can ask your credit card issuers to lower your interest rate. Creditors do this at their discretion, so customers with good payment histories are more likely to successfully negotiate lower rates.

You may be able to find a lower interest rate by seeking out promotions. If you use a balance transfer to get a lower rate, try to pay off the balance before the promotional rate expires. After that promotional period, your balance will be subject to higher interest rates.

Note

You typically need to have good to excellent credit to qualify for a low-interest or balance transfer credit card.

Increase Your Income

The more money you put toward your debt, the faster you can pay it off for good. Look for ways to come up with extra money to dedicate to your debt. For example, you could earn extra cash by selling items from your home, starting a side hustle, or generating income from a hobby. You may be able to earn more money from your full-time job by negotiating a raise or working more hours.

Withdraw From Your Retirement Fund

In extreme cases, you may consider pulling money from your retirement account to pay off your debt. 

Note

If you’re not at least 59½, you’ll face early withdrawal penalties and additional tax liability. The specific penalty you’ll face depends on the retirement account you draw from and how you spend the money, but the standard early withdrawal penalty is a 10% tax.

Plus, when retirement comes around, your savings will be short—not only from the money you withdrew, but also from the interest, dividends, and capital gains you could have earned with that money.

It’s possible to borrow from work-sponsored retirement plans, such as a 401(k). However, this strategy also comes with risks. If you leave your job, you’ll have to pay back the loan in an expedited timeframe that could worsen your debt problems.

Cash Out a Life Insurance Policy

You may have accumulated some cash in your whole or universal life insurance policy that you can put toward your debt. Like tapping retirement funds, this is a risky strategy that can come with tax consequences.

Cashing out means surrendering your life insurance policy, and it will no longer be in effect. Borrowing from your insurance policy may also be an option, but it may affect the death benefit your beneficiaries will receive.

Debt Settlement

Debt settlement may be a solution if your accounts are past due or you owe more money than you could repay over a few years. When you settle your debts, you ask the creditor to accept a one-time, lump-sum payment that’s lower than the full balance to satisfy the debt in full. Creditors typically only accept settlement offers on accounts that are in default or at risk of defaulting. However, debt settlement can negatively affect your credit score, so it should only be used as a last resort.

You can settle debts on your own by negotiating directly with your creditors, or you can get help from a reputable debt relief company. Beware of any company that advises you to purposely fall behind on payments in hopes that you can settle your debt once your accounts are in default.

Credit Counseling

Credit counseling agencies are organizations, usually nonprofit, that can help manage your finances and debt. When it comes to paying off debt, certified credit counselors negotiate with creditors on your behalf to create an affordable debt management plan. Each month, you’ll send a lump-sum payment to the credit counseling agency, which divides the payment and sends it to your creditors on your behalf.

A debt management plan created with a credit counselor is very different from debt settlement—you don’t have to be in default for credit counseling, and the goal is to pay your accounts in full.

You can find a credit counselor through the National Foundation for Credit Counseling or the Financial Counseling Association of America. Both organizations deliver credit counseling services through local member agencies.

The Bottom Line

While some of these steps may seem small—like avoiding new debt and building an emergency fund—they’re important for building a solid financial foundation that allows you to successfully pay off your debt. Tracking your progress along the way helps keep you focused and reminds you that you’re getting closer to your debt payoff goal.

Frequently Asked Questions (FAQs)

What is the best way to reduce debt while maintaining cash reserves?

When you’re getting out of debt, it’s important not to spend all of your available money, so you’ll still have funds available for the unexpected. Be sure you have an emergency savings fund in place to provide for unforeseen expenses. If you can’t tackle all your debts at once, the debt snowball method allows you to pay off your smallest debts first and continually build toward paying off your larger ones more quickly.

How do I reduce student loan debt?

If you’re overwhelmed by your student loan debt, you may have several options for lowering it or making your payments more manageable. Consider consolidating your federal loans, seeking deferment or forbearance, income-driven repayment, or opportunities to refinance.