Key takeaways
- Paying off credit card debt improves your credit score and reduces interest payments.
- Debt repayment strategies range from DIY methods to consolidation and debt settlement.
- The best strategy depends on your debt levels, financial situation, and personal preferences.
The cost of living and inflation are on the rise. According to data from the U.S. Labor Department, inflation increased at a rate of 2.9% this past August. The result, more and more people are relying on their credit cards to get by.
As people spend on credit, debt grows. The Federal Reserve put American credit card debt at $1.14 trillion in the second quarter of 2024. That is a whole mountain of debt. With interest rates at historic highs of nearly 23%, it’s harder than ever to repay debt.
We’ve put together a few strategies to help you efficiently reduce your credit card bills and become debt-free!
Try debt payment strategies
When you’re struggling with credit card bills, the first step is to try to deal with them yourself. DIY methods that can effectively reduce what you owe.
Pay more than the minimum
Paying only the minimum on your credit card each month may seem like an easy way to keep up with payments and not hurt your credit score. Unfortunately, they’re a bad idea.
Credit card companies make money off interest. The minimum payment is usually only 2% of your balance. If you only pay the minimum, your issuer will charge interest on the remaining balance. Over time, your balance will grow, and you’ll pay more and more in interest. If you pay more than the minimum – ideally the entire balance – you’ll reduce your principal balance faster. The lower your balance, the less interest you pay, and you’ll get out of debt sooner.
For example, if you owe $5,000 on a credit card with a 20% APR and only make the minimum payments, it could take you over a decade to pay off the balance. But by doubling your monthly payment or adding an extra $50 to $100 when possible, you’ll knock out the balance faster and save hundreds or even thousands in interest.
A good rule of thumb is to aim for at least double the minimum payment if your budget allows. Even small increases can make a big impact over time, helping you get closer to financial freedom.
Snowball or avalanche methods
The snowball and avalanche methods help you pay off debts efficiently. With the snowball method, you list all your balances from smallest to largest. Then, make all the minimum payments except for the smallest. Pay as much as you can toward the smallest debt. Once that balance is paid off, you take the amount you were paying on it and apply it to the next smallest debt, and so on. This method creates a snowball effect, where you gain momentum and confidence with each paid-off balance.
The avalanche method works similarly, except you list balances from highest-interest rate to lowest. Start by paying off the debt with the highest-interest rate first while making minimum payments on all the rest. By paying off the highest interest debt first, you will save money in the long run.
The snowball method gives you motivation with quick wins that can keep you encouraged throughout the process but you may end up paying more over time. The avalanche method helps you save money on interest, but it can take a while to pay off your first debt.
These strategies work best for those who can keep themselves disciplined and motivated.
Consider debt consolidation
If you’re struggling with multiple credit card balances and high interest rates, debt consolidation could be an effective solution to simplify your payments and potentially save money on interest. By combining your debts into a single, more manageable payment, you may find it easier to stay on track and pay off your balances faster.
Debt consolidation loans
A debt consolidation loan allows you to roll multiple credit card balances into one loan with a fixed interest rate and monthly payment. The idea is to take out a personal loan with a lower annual percentage rate (APR) than your current credit cards. Then, use the loan to pay off all your accounts. Instead of juggling multiple payments, you now have one monthly payment.
Having one bill to pay each month can simplify your finances and make it easier to pay on time – no more late fees. Most personal loans (especially for good credit) have a lower APR than credit cards, meaning you’ll save on interest payments.
It’s important to watch out for fees associated with the loan and to make sure that it will cost you less overall. Also, once the debt is consolidated, don’t continue to run up new charges on your credit card.
Applying for a loan will initially cause your credit score to dip. This is due to the hard inquiry and is only temporary. As soon as you start paying down your debt on time, your score will increase. If you’ve only had credit cards in the past, a personal loan can increase your credit mix, which is a plus for your score.
This strategy is best for those who want to simplify payments and are looking for a lower interest rate.
Balance transfer credit cards
A balance transfer credit card allows you to transfer your existing credit card balances to a new card, often with a low or 0% introductory interest rate for a set period. During this promotional period—typically between 12 and 18 months—you can make payments without accruing interest.
A 0% APR balance transfer credit card can be a great tool, but it’s not perfect. First of all, you will need to have good to excellent credit to qualify. Secondly, they come with fees. Make sure that the fees won’t eat too much into your savings. Most importantly, if you don’t pay off the entire balance before the promotional period ends, you could be hit with a high interest rate. Do the math and make sure you can afford to pay off the entire transferred balance before the promotional period ends. If you cannot, this is not a good method for you.
Similar to a debt consolidation loan, taking out a new credit card will initially lower your credit score. Make on-time payments, keep your utilization below 30% of your limit, and you’re score will rebound in no time. It may even increase as you successfully pay down your debt.
This strategy is best for those with good to excellent credit who can commit to paying off the entire balance within the promotional window.
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Seek help through debt relief
When your credit card debt feels unmanageable and you’re struggling to keep up with payments, debt relief may be the answer. The exact form of relief depends on your financial situation. You may be able to reduce the amount you owe, lower your interest rates, or even wipe out your debt altogether.
Debt management plans
Debt management plans (DMP) are arranged through nonprofit credit counseling agencies. In a DMP, the credit counselor works with you and your creditors to create a plan for paying off your balances, often with lower interest rates or waived fees. You’ll make one monthly payment to the credit counseling agency, and they will distribute it to your creditors.
Here’s how it works:
- You’ll meet with a credit counselor who will review your financial situation.
- The counselor will negotiate with your creditors to reduce interest rates and fees.
- The credit counselor will set up a more manageable repayment schedule.
- You’ll then make a single monthly payment to the agency, which will disburse the funds to your creditors.
Debt management plans are particularly helpful if you’re overwhelmed by multiple credit card bills and want to avoid more drastic options like debt settlement or bankruptcy. For a DMP to work, you have to afford the monthly payments. Credit counseling agencies also charge fees for their services, but these fees are low and can potentially be waived. You must also close your credit card accounts while participating in a DMP. Closing accounts – especially if they’re old – can hurt your credit score. Your credit score will improve as you make timely payments and pay off your balances.
This strategy is best for those who can afford the monthly payments, don’t want to apply for a consolidation loan, and need a little guidance.
Debt settlement
Debt settlement is a more aggressive approach to debt relief and involves negotiating with your creditors to settle your debt for less than you owe. This can be done on your own or through a debt settlement company. The goal is to pay a lump sum, less than the total balance, to settle the debt entirely.
For debt settlement to work, you often must be very behind on payments, possibly have delinquent debt, and but be able to pay a portion of what you owe. If you work with a debt settlement company, they often ask you to stop paying your creditors and instead make monthly payments into a savings account. Once you’ve saved enough for a lump sum payment, an agent will negotiate with your creditors to accept a reduced amount. Creditors are willing to negotiate since they want to receive something instead of nothing at all.
Once an agreement is reached, you pay the settled amount in a lump sum, and the creditor will forgive the remaining balance. A mark will be added to your credit report, noting that the account was ‘settled.’ This note will remain on your report for seven years and will hurt your credit score.
Debt settlement is not free if you work with a company. Most companies charge 15% to 25% of the original balance for their services. They will only take payment after an agreement is reached. Plus, you may owe taxes on the settled debt as the IRS considers it income.
This option is best suited for those who are already behind on payments and have exhausted other options. It is generally considered the last step before bankruptcy.
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Negotiate with creditors
If you’re falling behind on payments or facing financial hardship, it’s worth reaching out to your creditors to see if you can negotiate more favorable terms. Credit card companies don’t want you to default on your debt, so they may be willing to work with you to create a more manageable repayment plan.
You might be able to negotiate a lower interest rate, reduced monthly payment, temporary forbearance (pause in payments), or waived fees or penalties.
To start the process, contact your credit card issuer and explain your situation. Be honest about your financial struggles and ask if they offer any hardship programs. While there’s no guarantee that creditors will agree to your requests, they may be more willing to negotiate if they believe it’s the best way to ensure they get repaid.
This strategy is best for those who are facing financial difficulties and have a good relationship with their creditors.
Bankruptcy
Bankruptcy is a last resort for managing overwhelming debt. It can give you a fresh financial start but has serious long-term consequences. There are two common types of personal bankruptcy: Chapter 7 and Chapter 13.
Chapter 7 bankruptcy involves liquidating your assets to pay off your debts. If you qualify, most or all of your unsecured debts, including credit card debt, can be discharged. You will be required to sell off some of your assets (essentials like clothing are excluded). Bankruptcy will stay on your credit report for up to 10 years, severely dragging down your score. This will make it difficult to obtain new credit.
Chapter 13 bankruptcy allows you to keep your assets but requires you to follow a court-approved repayment plan, typically lasting three to five years. After completing the plan, any remaining credit card debt may be discharged. Chapter 13 stays on your credit report for up to seven years and similarly hurts your credit score.
While bankruptcy can offer a fresh start by wiping out most unsecured debts, it also has long-lasting effects on your credit and financial reputation. It’s important to consult with a bankruptcy attorney to understand whether this is the best option for you and to fully grasp the legal implications of filing for bankruptcy.
This option is best suited for those who have tried everything else and have over $10,000 in unsecured debts.
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Frequently asked questions
1. Does credit card debt hurt your credit score?
Yes, credit card debt can hurt your score. Your credit utilization ratio, or how much of your available credit you use, determines 30% of your score. When you max out your cards or carry a large balance, you have a high utilization ratio, which lowers your credit score.
2. What effect does paying off a credit card have on my credit score?
Paying off a credit card will help improve your score. It reduces your credit utilization ratio, a key factor in credit scoring, and shows lenders that you can manage credit responsibly.
3. How fast will my credit score go up after I pay off my credit card balance?
Financial institutions report credit activity to the credit bureaus once a month at the end of the billing cycle. It will take 30 to 60 days for the change to be reflected in your credit score. How long it takes depends on when your payment was made and your card issuer’s reporting schedule.
4. Should I pay off my credit card completely or keep a balance?
It’s best to pay off your credit card balances completely every month. Carrying a balance doesn’t help your credit score and only leads to paying more interest. Paying off your balance in full each month reduces your credit utilization, improves your credit score, and saves you money by avoiding interest charges.
5. Which card should I focus on paying off first?
Focus on paying off the credit card with the highest interest rate first. This will save you money in the long run.
Bottom line
There are plenty of ways to pay off your debts. To decide what strategy is best for you, consider your current finances and what you can afford. Not every debt payoff strategy works for everyone. If your cash flow is low, make the minimum payments and throw whatever you can towards one of your balances. If you can afford to pay more and are tired of the snowball or avalanche methods, try consolidation or negotiating with your creditor. Talking to a credit counselor can be a good way to figure out your options and decide the right path for you.
There are plenty of debt relief tools available to help you chip away at your balances and get out of debt. Take action today, stay consistent, and you’ll be on your way to financial freedom.