Smart Money Podcast: Your Guide to Budgeting, Credit and Debt Management Strategies

Lauren Schwahn
Elizabeth Ayoola
Kimberly Palmer
Sean Pyles
By Sean Pyles,  Kimberly Palmer,  Elizabeth Ayoola and  Lauren Schwahn 
Published
Edited by Kevin Berry

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Welcome to NerdWallet’s Smart Money podcast, where we answer your real-world money questions. In this episode:

Learn tactics to make and manage a budget, understand credit scores, and manage debt to improve your financial health.

Budgeting Basics: Personal Finance Nerd Elizabeth Ayoola discusses how you can create and stick to a budget. She explains how to use the 50-30-20 method to allocate your income, gives tips on how to adjust your budget to fit your needs, and methods for budgeting and stretching your paycheck when it arrives at different intervals, like monthly or biweekly.

Credit Scores and Credit Reports: NerdWallet writer Lauren Schwahn breaks down the basics of credit scores and credit reports. She explains how to get negative or incorrect information off of your credit report, how to get a higher credit limit, and how different sources of debt can affect your credit. She also discusses the differences between good debt and bad debt.

How to Manage Debt: Elizabeth shares strategies you can use to manage debt in order to improve your financial health. She covers debt to income ratios, snowball and avalanche methods of debt repayment, debt consolidation, how to allocate extra income from side hustles, and the legal process of bankruptcy.

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NerdWallet stories related to this episode:

Pay Off Debt: Tools and Tips Have a money question? Text or call us at 901-730-6373. Or you can email us at [email protected].

To hear previous episodes, go to the podcast homepage.

Episode transcript

This transcript was created from podcast audio by an AI tool.

Sean Pyles:

Hey, listener, Sean here. If you are listening to this podcast, chances are that you're already pretty savvy with your finances. But sometimes you just need a refresher and that's what this episode is. We're sharing a recent webinar from our fall webinar series about the fundamentals of personal finance. In this episode, you'll learn how credit scores work, how to manage debt and much more. And as always, if you have any questions about how to handle this stuff, send them our way. You can call or text the Nerd hotline at (901) 730-6373 or email your questions to [email protected]. All right, here's the episode.

Kim Palmer:

All right, I think we can get started. Welcome everybody. I am Kim Palmer. I am a personal finance expert at NerdWallet.com, where we help people make smart decisions about money. One important note first, we are not financial or investment advisors. This Nerdy info is provided for general, educational and entertainment purposes and might not apply to your specific circumstances. If you have personal finance questions, you can drop them in the Q&A. Today is the first in our three-part webinar series and we are so excited to talk to you about budgeting, credit and debt today and we think we have some helpful tips to share. You can always find more at nerdwallet.com or on the NerdWallet app. Our goal today is to kick off a helpful discussion about managing your money. You'll be hearing from the three of us, Elizabeth, Lauren and myself. Elizabeth Ayoola writes about budgeting and debt and Lauren Schwahn covers credit scoring. Here's what we'll go over today: budgeting, credit scoring, managing debt and of course time for questions. So let's get started with budgeting. Elizabeth, can you please introduce yourself and tell us what is a budget?

Elizabeth Ayoola:

Hi everyone. Thank you for being here today. My name is Elizabeth Ayoola and I write about budgeting and debt at NerdWallet. So budgeting doesn't have to be boring and a budget is simply a way for you to track where all your money is going. And the good thing about budgets is they're malleable, they're not set in stone so you can change them and adjust them as your income changes or as your bills change or however you need to. So when it comes to budgeting, a great place to start is first by tracking your spending. So first you want to calculate how much am I spending? You can use an app like NerdWallet, yes, that is a shameless plug, to see where your money is going. I don't know about you guys, but most of my biggest expenses is housing, transportation and food. So a budget would help you to manage that spending in those categories and help you know if you're spending too much.

And a good thing is if you do realize you're spending too much in any of those categories, you can look at the easiest thing to change, which may be food, for example, and you could cut out some takeaways or skip the Cheerios for a store brand instead to cut down on expenses and things like that basically to adjust your budget. Now for myself, I started budgeting maybe in my thirties and honestly before, I was just spending money like it was growing in my backyard. So a budget helped me to get better at spending my money and what I do now is I automate a lot of my finances. I automate my bills, I automate my savings and my investing and then I have a nice little splurge budget that I use to buy whatever I want because I do like impulse shopping. So that's how I work my budget.

Kim Palmer:

I love that. And why can it be good to have a budget?

Elizabeth Ayoola:

So it can be good to have a budget because it helps you when you want to set goals. So let's say that you want to buy a house or even something more small scale, like you want to buy yourself, I don't know, a new bag or a car or you want to pay down your debt, whatever it is. A budget helps you to know how much money that you have and how much you need to put aside to reach that goal. So for example, maybe you want to build up an emergency fund of $200 by the end of the year. So a budget will tell you how much that you need to set aside every week or every month to reach that goal. So you might need to set aside, for example, $20 a week. So by creating a budget, you can just see where that $20 can come from and also allocate how you want to set it aside, whether that's in a savings account, using the cash envelope system, which we'll talk about later, or any other kind of means to save the money.

Kim Palmer:

Perfect, thank you. Well, Elizabeth, tell us how to get started. How to start to make a budget?

Elizabeth Ayoola:

So I don't know about you guys, but I know when I started budgeting, I stalled a lot because I didn't want to know how much I was spending and I just thought it would go away if I ignored it, but it doesn't go away. So the first step is to figure out what your take home pay is, which is how much you have every month after you pay your taxes. And then you can pick a budgeting method, which can be fun.

A popular one that we recommend at NerdWallet is the 50-30-20 method. And that says that 50% of your income goes to needs, 30% goes to wants and 20% goes to saving and paying down debt. So the good thing about the 50-30-20 budget is that it's adjustable. So I know especially now because we have high inflation, some people's needs may have gone up dramatically. I know my rent went up $500 in the past year. So you may need to adjust those numbers to match your budget and maybe your needs bucket might be 60% and you might have to adjust the other numbers, but it's flexible. You can use an online calculator to help with that, a 50-30-20 calculator, which we have on our website.

Kim Palmer:

Perfect. Yeah, I agree. I like the fact that you can be flexible with those different buckets. So that is definitely my favorite place to start. Elizabeth, let's talk about other budgeting methods. If maybe people want to try something other than 50-30-20, what else can you recommend?

Elizabeth Ayoola:

Of course. So we have the cash stuffing method, that's one. And some people like to feel and see their money. And there's this theory with the cash stuffing method that you see exactly where your money is going, whereas if you're using credit cards, it's easy to just keep swiping and swiping and not look at how much you're spending. So with the cash stuffing method, which is also known as the envelope based method, you can take your cash and you can assign it to different categories and you can do this by labeling envelopes. So I may have one envelope titled Food for the month and one for utilities and so on and so forth. So yeah, like I said, some people like cash because it's just a way to see where your money is going versus digitally. But you should be careful because it is possible to lose your money, maybe the dog might eat it, maybe you forget where you put it. And so be careful with that method.

Another method you could try is this zero-based budgeting method, and this is a pretty popular one. So to do this, you account for every single dollar that you spend until there's nothing left. One of the apps that you can use to do that is You Need a Budget or EveryDollar. I think this method is pretty good for people who are very meticulous and detailed and want to know literally where every penny is going. I personally am not like that, I just like to know that I have all of my basics covered and I'm not really concerned with where every single penny goes. And the third one I'll mention is reverse budgeting. So with this method, you pay yourself first. So this is similar to what I do. So you put money into your savings account before anything else and then from there you handle the rest of your expenses. But the whole quirks of this is prioritization. So you want to ensure that you're paying your bills, putting money away for saving and then whatever happens to the rest of the money is your business.

Kim Palmer:

Perfect. So what about some things we should watch out for? Are there any budgeting trends that are a little risky that you want to warn us about?

Elizabeth Ayoola:

Yeah. So with the rise of social media and TikTok and trending, sometimes budgeting videos go viral on TikTok or Instagram, but it doesn't mean that they're necessarily recommended methods. So the rule of thumb is always to think about your personal finances and what is going to work best for you. And if you're not sure, speak to a professional. So an example is the cash stuffing method, which went viral, but the risks weren't outlined within the viral videos. So like we said, if you have too much cash sitting around in envelopes instead of putting it into a savings account, this can mean that you're missing out on high interest. And that's really important right now because I don't know if you guys know, but the Feds have been raising the interest rates. They raised them I think 11 times now. And what that means is that debt becomes more expensive, but also saving money becomes more appealing as well.

So I don't know if you've gotten an email, I have a savings account with American Express and they keep telling me that the interest rates are going up on my savings account, which is nice. So the downside of the cash stuffing envelope method is you're not getting interest on the money that you're saving that you could have in an account. So similarly, a TikTok trend about girl math suggests that everything under $5 is actually free and paying for maybe expensive hair extensions always pays off, but it's not exactly true. And I must admit that I am guilty of girl math. I have bought things and returned them and maybe instead of saving that money, bought something else and told myself it doesn't matter because I already spent the money and so on and so forth. So be careful of things like that

Kim Palmer:

For sure. I recently heard about mom math too. There's all kinds of math out there. All right, so please tell us some other resources. Do you have any other recommendations just for budgeting resources online that maybe could help us?

Elizabeth Ayoola:

Yeah. So there's so many budgeting calculators online, especially on NerdWallet and we also have the NerdWallet app, which will help you input your monthly expenses and just give you an idea of how much you're spending each month and help you categorize it as well. You could also use other budgeting apps like Mint, which is a beloved app, You Need a Budget, Goodbudget and also Honeydue, which is a budgeting app for a couple. So for anybody who is budgeting with a partner, a roommate or family member, anyone else, it allows you to collaborate and put your finances together to see where your money's going.

Kim Palmer:

Perfect. And on that topic, we actually did get a question related to budgeting as a couple. Can you answer this person's question? What's your advice for how to budget as a couple, especially if you have different incomes?

Elizabeth Ayoola:

So that could be a whole webinar on its own, but I'll find a way to answer that shortly. I think the first thing or the most important thing is outlining what your goals are as a couple. Everyone likes to split their finances different when it comes to partnership. Some people like to bring all their money together and put it in one pot and then divide it and decide what you're going to do with your money. Other people like to keep their finances separate and say, "Hey, you're going to pay this bill and I'm going to pay this bill."

When I was married, what we used to do is we had a household account and we both contributed an equal amount to that account every month. And then we would use that to pay bills and just do family things together. So I think first of all, decide how you're going to manage your money and then as we just mentioned, you can use one of the apps like Honeydue to track your finances and see where the spending is going. Other apps that you can try as well are DollarBird or HomeBudget as those also allow you to collaborate on your finances. But I think the main thing is just sitting down and having a joint goal in terms of how you want your money to be spent and then work from there.

Kim Palmer:

Okay, perfect. Thank you. I saw one more question, maybe you can answer now. How do you budget or stretch your paycheck when you get paid once a month? And maybe you could also speak to if you get paid at a more unpredictable rate or variable income, how can you apply a budget when your paycheck isn't so every two weeks you get that paycheck?

Elizabeth Ayoola:

That's really interesting because I used to live in London and I would get paid every month. And then when I moved here I got paid biweekly and I actually preferred the monthly pay because I got my money in one sum and could divide it up how I wanted to spend it. So I think it's just, there are multiple ways to go about it, but one thing that you could do if you get paid once a month is basically rounding up all of your bills for the month and your expenses for the month. One thing that I had to do was track when all of my bills came out because some came out at the beginning of the month, the end of the month. So see when your bills are coming out, how much your bills are each month, just as we explained earlier with the budget, and then you can put aside buckets for each expenses.

I also have two different accounts that I manage my money in, so I have a spending account and a bills account. So maybe if your employer lets, you could also split up your paycheck into those two different accounts. So what happens with my bills account is that once I'm paid, half of my paycheck goes into my bills account and I don't touch that account. So all of my bills get paid out of that and I only touch my spending account. So I think just divide up your budget and make sure that your essentials are being paid and then you have to also budget for the amount that you have left to spend for the rest of the month.

Because if you're anything like me, maybe sometimes you spend your paycheck early and then you didn't have enough leftover or whatever the case is. But if you divide that and say... I think a cash envelope method might be really good for this too. So even if you said, "Hey, I'm going to allocate $50 a week for the entire month for spending on whatever I want." And then make sure your bills are paid, that's a way to manage it.

Kim Palmer:

That's great advice. Thank you so much. We will definitely come back to more budgeting questions at the end. So thank you so much Elizabeth for explaining the importance of budgeting and how to get started. Another key component to personal finance is credit. Lauren, can you please introduce yourself and give us the basics on what credit is and why your credit score matters?

Lauren Schwahn:

Yes. Hi, I am Lauren Schwahn and I cover credit scoring as a personal finance writer at NerdWallet.

Kim Palmer:

Lauren, maybe you can start by telling us what is credit and why is it important?

Lauren Schwahn:

Sure. So credit is money that's available for you to borrow and pay back later. And credit scores and credit reports, which we'll talk about in a little bit, are the two big elements that determine your access to credit. So credit is really important because it can be a tool to help you fund your purchases, especially those big ticket items, things like cars or a new house. And bad credit can make it really difficult for you to achieve those things or even prevent you from achieving those things altogether. So it's really important to foster good credit.

Kim Palmer:

Perfect, thank you. And what are the different types of credit?

Lauren Schwahn:

Yeah, there's a few different types, the two main ones are revolving and installment credit. So revolving credit, that's most common, like a credit card, is where the borrower is given a credit limit or a certain amount that they can spend up to. And if there's any unpaid balance at the end of the billing cycle, that amount will get carried over into the next month. And installment credit, which includes things like car loans, student loans, mortgages, is where the borrower repays the loan usually in fixed increments over a certain amount of time.

Kim Palmer:

Great, thank you for explaining that. So Lauren, why don't you tell us what is a credit score?

Lauren Schwahn:

Sure. So a credit score basically is a three digit number that lenders will use to gauge your credit worthiness or how risky or likely you’re to be as a borrower. The number usually falls somewhere between 300 and 850 and the higher the score the better. So better credit scores can mean better access to certain financial products like credit cards or loans. And they can also usually give you more favorable terms when you borrow. So that might be a lower interest rate or a higher credit limit. And scores can also influence how much you might pay for insurance policies, utility deposits, whether a landlord rents you an apartment, and what kind of cell phone plan you might get, as we touched on in the survey. So there's a lot of reasons that you may need a credit check. And one misconception is that people only have one credit score, but most people actually have multiple credit scores, sometimes even hundreds of them assuming you have a credit history.

And that's because there are many different credit scoring companies and different scoring models that they use. FICO and VantageScore, you may be familiar with, are the two most commonly used brands, but there's tons of them out there. And it's important to check them regularly because not only, like we said, do you have many different scores, but scores can also fluctuate. So the number you saw last month may be different than the number that you see next month. And the good news is that checking your credit score won't affect your credit score and you also don't have to pay to check your credit score, there are a lot of ways that you can do it for free. So often you can check it through your bank or a credit card provider as well as reputable financial websites like NerdWallet.

Kim Palmer:

Perfect, thank you. And what are the different factors that affect credit scores?

Lauren Schwahn:

Yeah. There are a lot of factors that shape your credit score. Credit scoring companies don't tell us 100% about what their algorithms take into account, though we do know what some of the biggest driving factors are. So payment history is whether you've paid your bills on time and credit utilization, which is how much you owe on your credit cards compared to your total available credit limit. Those are the two most important factors that make up usually over 50% of your score. But how long you've had credit, what types of credit you have, whether you only have credit cards, only have loans or if you have a mix of the two, as well as how recently you've applied for new credit, those factors all matter.

Kim Palmer:

Thank you. What is a credit report exactly?

Lauren Schwahn:

So a credit report is just a more detailed record of your credit history. So there are three major credit bureaus, Equifax, Experian and TransUnion, and each of them will produce a credit report for you. And this is important because the data from these credit reports is what's used to generate your credit scores. So your credit report usually doesn't tell you what your credit score is, so that's something you have to check separately. But what they do contain usually is personal information, so maybe your name, your address, your employer, as well as information about how you've used credit in the past. So you're likely to see which accounts you have open, what their balances are, if you've had any late or missed payments and any other negative marks like a foreclosure or a bankruptcy. And so this is important because it provides details about your relationship with credit and that can determine whether or not you'll qualify for a credit card, loans, jobs, sometimes an apartment. And regularly checking is also really important because you may spot errors that could be dragging your score down.

So just a little personal story. Last summer I received a notice in the mail from the IRS that said somebody had possibly used my Social Security number to get a job. And so one of the first things I did was to go online and check my credit reports because I'm thinking, "Oh, somebody's getting a job with my Social Security number, what else might somebody be doing with my information?" And luckily I didn't see any new inquiries, any account openings, I had already had a couple credit freezes in place. And if you're not familiar with a credit freeze, that's basically where you tell the bureaus not to let people access your credit report. And if a lender can't see your credit history, then they're not likely to extend a line of credit in your name.

But yeah, all that's to say, it's really important to stay on top of it because you're not always going to be alerted to a potential problem like that. So you really want to make sure if there is an issue that you are addressing it as quickly as possible because the longer things go unnoticed, the more damage it can do to your finances. And the good news there is that your credit reports are also free to check, so you can check weekly your three major credit bureau reports at annualcreditreport.com.

Kim Palmer:

I know this topic is really important to people too. When you're just starting out, how can you build your credit score?

Lauren Schwahn:

Yeah, it can be tough. I know in my early adulthood I felt really discouraged because I would have credit card application after application rejected and there are things I wish I knew when I was younger, but the good news is there are ways that you can start building credit. So one is that you can get a secured credit card and basically what that is is a card where you are required to put down a cash deposit and that deposit amount is usually equal to the credit limit that you'll receive. So if you put down $300, you'll get a $300 credit limit.

Another option is to apply for a credit card with a co-signer. So usually that will be somebody with better credit, who has a reliable income and what they're agreeing to is to ultimately pay the bill if for some reason you're unable to. So it's really important that if you enter into a relationship like that, it's somebody that you can communicate well with and you really want to just make sure that you're practicing good behavior with that account so that you don't ruffle any feathers.

Another option is to look into what are sometimes called starter unsecured credit cards. And those are basically just regular credit cards, but that might be available to somebody with little to no credit history. One example is there are some of these cards that are designed for college students. So another option, you can ask to become an authorized user on somebody else's credit card. And that's like a co-signer, that person is ultimately responsible for paying the bill if you can't. But what's cool about that is that you don't necessarily have to use the card or even have it in your possession, but as long as the primary account holder is being active on that account, then you'll reap the benefits of their credit usage.

Okay, another option, you can take out a credit builder loan. So these are loans that are usually offered through smaller credit unions and banks and the way they work is that you'll get a loan amount, but it's kept separate in a bank account and you make payments toward it and once you're finished making off payments, the amount is released to you. So it's a cool way that you can build savings as you're building your credit. Another possibility is that you can maybe get credit for paying your rent or phone or utility bills. So these things normally are not reported to the credit bureaus, but there are services that may do it for you.

One thing to note is that some of these services are free, but some may charge you or a landlord or potential landlord to use them. And they are not always reported to every credit bureau, so they won't be reflected in every credit score that you have. But with most of these services, you should be able to go on their websites and see who they report to. And last but not least, just take care to nurture your credit over time so the credit that you do have, it's really important to practice good behaviors and protect. Again, things like making your payments on time and trying to avoid closing accounts unnecessarily, things like that.

Kim Palmer:

Thank you. So lots of different options. That was helpful to go through. What about some other resources you can recommend for people?

Lauren Schwahn:

Yeah. So again, NerdWallet's super helpful, we have a lot of great content with articles around this topic. You can also get your free credit report and a VantageScore 3.0 score through NerdWallet. As I mentioned, your three major credit reports, you can check weekly for free at annualcreditreport.com. And then you can also check with your financial institution, so your bank, your credit card provider, they may provide you a free credit score or things like credit alerts.

Kim Palmer:

Perfect, thank you. We had a couple of questions come in on this topic, so let me ask you if you can answer them. First of all, how do I get negative or incorrect information off my credit report?

Lauren Schwahn:

Yeah. So there's a few ways you can go about it. If you think it's a mistake or something, that's an error. If you see for example on your credit report, an account that you didn't open or there's a payment that was reported as late that you know that you made, then you can dispute that. So what that means is basically you'll contact the credit bureau, you can do this sometimes online, by mail or sometimes by phone. Online is usually the fastest. But you'll just have to provide them information, see if you can gather any evidence that can support your case and they will usually resolve those disputes within a few weeks. So it can be pretty fast.

But if there's a negative mark on your report that is accurate, if you did miss a payment, you're carrying a lot of debt, things like that, then it depends on the circumstance. There's a potential, if it was a one-off thing, you might be able to reach out to the lender and see if you can work out an agreement if you arrange to make the payment and ask them if they can wipe that from the report. You may also be able to write a goodwill letter, which is just stating your case, explaining what happened, why it won't happen again, that could work, but it's not guaranteed in all cases. But in some instances it's just a matter of time, so it depends on what the negative mark is. If it's, again, a late payment, a bankruptcy, they'll stay on your credit report for a different number of years so you may just have to wait until those roll off unfortunately.

Kim Palmer:

What about this one? How do I get a higher limit for credit?

Lauren Schwahn:

Yeah. So having your credit in good standing is the easiest way to increase your credit limit. So you want to make sure for your open accounts that you're using as little of that credit limit as possible. And it depends, sometimes issuers will automatically raise your credit limit if you've had the account open for a certain amount of time, so you can always check online. Another good time to do it is after your income has increased. So say you get a pay raise, that may be a good time to ask. But yeah, it just depends. I would take care of the credit that you have, make sure it's in a good place, because you'll be more likely to be granted that credit limit.

Kim Palmer:

Great advice. Thank you so much, Lauren.

Lauren Schwahn:

Of course.

Kim Palmer:

Budgeting and credit scoring can play a big role in debt and how to manage it and that is the topic of our final section. Elizabeth, tell us what is debt?

Elizabeth Ayoola:

Right. So debt is when one party owes another party money. So an example is if you use a credit card and you don't pay it off in full, then your balance would be debt. And likewise, if you take out a loan, the balance that you owe on that loan is debt as well. So we have secured debt and we have unsecured debt. So secured debt has some kind of asset attached to it or rather that the borrower pledges that they're going to pay back the person they lended from if they don't pay back their loan. So the asset is only taken away if the borrower doesn't pay back their debt. An example of that is a car loan. If any of us have car loans here, if you miss more than a few payments on your car loan, then they're likely to come and get the car back. And the same with mortgage payments. Unsecured debt on the other hand is debt that doesn't have any collateral.

Kim Palmer:

Elizabeth, how would you classify good debt versus bad debt?

Elizabeth Ayoola:

I want to say first that having debt in itself is not a bad thing, especially when you leverage it to improve your quality of living or use it to build wealth. So that said, good debt usually has relatively low interest rates and it can help you increase your income or grow your wealth. So examples are taking out a student loan and then being able to get a higher pay job in return, cars, which help you to get from A to B, as well as mortgages because those can grow in value over time and help you grow wealth as well. Bad debt on the other hand usually has a high interest rate and it can negatively impact your finances. So for example, a credit card debt or rather a credit card debt that snowballs. Payday loans can also be in a category of bad debt as well.

Kim Palmer:

That makes a lot of sense. And are there different sources of debt? Could you run through some of these for us?

Elizabeth Ayoola:

Of course. So there are many sources of debt, one of the most common ones is credit card debt. This was actually the first type of debt that I had. I think I was 17 or something and my mom's like, "Hey, why don't you take out a card to start building your credit?" But it didn't really come with a manual beyond that. So I was buying a lot of clothes and accessories and I wasn't paying back on time and that basically messed up my credit. So that was one of the first types of debts that I had. Credit card debt can be really expensive as well because of the annual percentage rate and that is the interest that you pay for borrowing the money. And it can range from the teens to the twenties depending on the card provider, your credit score and whether the interest rates are rising or falling.

Another common type of debt is medical debt, so that's debt that you accrue for visiting the doctor. You also have student loans, which I'm sure many of us know what that is, that you take out for education. You have buy now, pay later loans. I think sometimes people don't see these as debt because I use them sometimes, Afterpay and Klarna and things like that and they tell you that you can pay in four. And usually if you pay in four you're not charged any interest, but if you choose longer periods, then you usually are charged interest and also if you don't pay off what you agreed to pay off, then it can affect your credit score in the long run. You also have, I'm not going to go through everything on here, but personal loans are another one sometimes people don't think about. So they're usually provided by a private lender and you can use these loans for anything that you want including a home remodel, debt consolidation or a large purchase.

Kim Palmer:

Great. Thank you. What happens if you have debt?

Elizabeth Ayoola:

So having debt in itself is not a bad thing. As I said earlier, you can use debt to build wealth or to improve your standard of living. But it becomes problematic when you're spending too much of your income on paying down your debt or it starts snowballing, which means like a snowball, your debt is getting bigger and bigger and bigger. It can also be problematic when it affects your credit score and limits your borrowing options. So for example, many of us know if you have a bad credit score then it might not be possible to rent an apartment or to get a good mortgage deal, if you can get one at all.

So you can use debt to income ratio to decide whether your debt is problematic or not. We do have a hefty calculator on NerdWallet that you can use to calculate your debt to income ratio, but I'll just tell you manually to calculate it, you add your monthly debt payments and you divide them by your gross monthly income. And your gross monthly income is the earnings that you have before taxes and deductions are taken out. You can usually see that on your payslip. So if your DTI or debt to income ratio is less than 36%, then your debt is probably manageable. But if it's higher than that, then you might want to start paying it down and we'll give you some strategies for that later.

Kim Palmer:

I love using calculators online so you don't have to do that manual calculation. So that's a great tip. What about managing debt? Talk to us about this.

Elizabeth Ayoola:

So managing your debt. First things first is keep track of how much you owe and depending on the type of person you are, some people like to do it manually by using a spreadsheet. But you do have to be very consistent with that because you need to put it in every time you're spending money or rather paying off your debt. And you can also use an app like the NerdWallet app to help you track your debt as well.

Another thing that you want to do is monitor your credit to ensure that all your debt on the credit report is yours. So as Lauren said, sometimes people can take out debt in your name, sometimes people can use your Social Security number or your details and take out loans. So you want to make sure all of the debt is yours. And then lastly, you want to try to pay off your balances in full every month. I know this is not possible for everyone because maybe their paycheck is spread thin, but if you can't pay it in full, then at least pay the minimum balance. But it's not advisable that you only pay the minimum balance because your debt could snowball that way.

Kim Palmer:

That's awesome advice. Thank you. Let's talk a little bit more about paying off debt. I know there are different methods people can use, so could you explain some of those to us?

Elizabeth Ayoola:

Of course. So we'll start with a snowball method, which is one of my favorites. Maybe because I like snowballs. But anyway. So a snowball method, what you do is you pay off your smallest debt first and then you gradually pay off bigger ones. This can be a great method for people who get satisfaction from seeing at least one debt paid off and then they feel encouraged. Because some people have such overwhelming debt that they're like, "Where do I start with this? And I'm not even making any progress."

So how it works is you pay at least the minimum payments on every single one of your debts, not just on one, but you take extra money and then you put that on your smallest debt until you pay that down. Then once you pay off that smallest debt, you take all the money that you were putting on the smallest debt, which includes the minimum payment and the extra money and you put it on the next smallest debt. And you keep going until you're creating this huge snowball and then you pay off your debt and life is great and you have a debt payoff party and everything is amazing. So that's basically how the snowball method works.

The debt avalanche method is a little bit similar, but you do the reverse. So you pay off the debt with the highest interest rate first and then you keep going and going and going that way. This can be satisfying for people who would feel more satisfaction from seeing their biggest debt paid down first. There's also debt consolidation, which you can do through a personal loan or credit card. So I have heard many people say, "I hate the idea of having to pay five different people that I owe debt to every month and it's really frustrating and I'd rather just have one lump sum payment." So debt consolidation helps you do that. So you basically take out a loan that's going to cover all of your debt amount and then you pay off that debt with the loan and then you pay back the loan incrementally. You can also do it with a credit card as well.

Another thing, I am a side hustle queen, so let's be honest, you read all these budgeting things online and they're like, "Save 1 cent from buying this kind of pasta versus this or cut off Netflix." But sometimes that's just not enough and you just ain't got enough money. So that's where side hustles can be extremely helpful because you have extra money that you can use to pay down your debt. So I know we've seen all the listicles of side hustles, we have a lot of those on NerdWallet, in case you're stuck on ideas of ways to make extra money, but it can make paying down debt a lot faster, but it does require discipline. Because you might see that extra check and be like, "Oh, going out to eat tonight." But you have to be disciplined enough to use that to actually pay the debt down.

If things have gotten really bad in terms of your debt, then you may want to consider bankruptcy, which is a legal process to eliminate the debt altogether, so you can hit reset basically on your finances in that way. Or you can do debt settlement, which is where you try to get your creditors to negotiate the price of your debt. So in that way sometimes you can slash your debt in half or just end up paying a lot less.

Kim Palmer:

Perfect. So many good ideas. Thank you for that. Let's talk a bit about some resources. So what are some resources you recommend for people?

Elizabeth Ayoola:

So I'm very thankful to be part of the technology age where you can just download an app and it can help you streamline the process of managing your debt. So the NerdWallet app is a great resource to help you manage your debt. You also have the Debt Payoff Planner that you can use as well, you have Tally. And then again, if you are a more traditional kind of person, then just use a spreadsheet to keep track of how much you're paying and how much you have left to pay as well.

Kim Palmer:

Perfect. Thank you. Now we did get some questions about debt. So first, Elizabeth, could you answer this one? When splitting paychecks for budgeting, how do you go about creating/maintaining the bills account? Should you calculate exact amounts for every bill and put that total into the bills account or is it better to add a little more than expected just in case something unexpected happens?

Elizabeth Ayoola:

I really like that question and what I do personally is I do the latter, so I always leave a little bit of wiggle room. But if you're a very exact person, I don't think... Unless you're going to have a surprise bill. I don't know, the only kind of surprise bill I can think of off the top of my head, which has happened to me before, I went out of town and I didn't even know what was going on with my phone plan and I came back and my bill was double the amount. So instead of paying what I usually would've paid, like you said, I ended up having to pay over. So I would definitely leave some wiggle room and some extra dollars in there in case one of your bills ends up being more expensive than you anticipate.

Kim Palmer:

Perfect. That's such good advice. Thank you so much. So we do have a bunch of other questions to get to. Let's tackle this one, Elizabeth. And Lauren can chime in too. Can I pay off debt and save at the same time? How do you juggle both priorities?

Elizabeth Ayoola:

You absolutely can and that is why I love the 50-30-20 budget. So some people feel like, "Oh, I have so much debt and that means that I can't save any money because I have to pay down the debt." But depending on how much debt you have, you might be paying it for a little while. So if you say, "I'm not going to save any money at all until I pay off all my debts," an emergency could happen. Your car could break down, you have an unexpected bill you have to pay and then that could lead you to taking out more debt to pay off those emergencies.

So it's recommended that you find somewhere in between that 20% of the 50-30-20 budget, a way to slice whatever that number is for your 20%. So some goes to saving and investing and some also goes to paying down debt. So the rule of thumb is that you pay down, again, that high interest rate debt first and you put whatever you can put towards that and that you also try to build up an emergency savings fund of at least $500. So again, that might mean putting away $50 every paycheck, $20, but every little amount counts.

Kim Palmer:

Good advice. Lauren, we have some questions for you about credit. So does keeping a balance on your credit cards help your credit score?

Lauren Schwahn:

So that is actually a myth as we went over the different factors that affect your credit score, the payment history and your credit utilization are the two big ones. So if you're not making payments and you're using more of your credit limit, those are going to have pretty big impacts on your score. So ideally you want to pay at least the minimum, but ideally the full balance and that'll have a more positive effect in the long term.

Kim Palmer:

Okay. Perfect. Back to budgeting for you, Elizabeth. We have a question. This is more about mindset. So do you have any advice on how to shift your mindset to stay on budget?

Elizabeth Ayoola:

Do I? Yes, I do. So again, Elizabeth is an impulsive spender, but what really was the shift for me was having goals for my money. As boring as this sounds or maybe even intimidating, retirement planning really helped me. So I started asking myself, what kind of retirement do I want to have? Where do I want to live? How much money do I want to have each month? And I used our retirement calculator at NerdWallet to calculate how much I would need to have saved to have that number. And it just put me into perspective of how far away I am from my goals. So that helped me to come up with a strategy, how much I need to save each month and put towards retirement savings or just my emergency fund and just keeping my finances in good order. So I would say setting goals for your money, that will help you stay focused in terms of your spending.

Kim Palmer:

Perfect. I think those are great words to end on. So thank you so much, both of you, Elizabeth and Lauren. And thank you everyone for being here. We hope you enjoyed this webinar. We hope you learned something today.

Sean Pyles:

And that's all for this episode. If you have any questions about anything we covered in this episode, turn to the Nerds and call or text us your questions on the Nerd hotline at (901) 730-6373. That's (901) 730-N-E-R-D. Or send us a voice memo at [email protected]. This episode was produced by myself and we had editing from Kevin Tidmarsh. Thanks as always to NerdWallet's editors for all their help. Here's our brief disclaimer. We are not financial or investment advisors. This Nerdy info is provided for general educational and entertainment purposes and may not apply to your specific circumstances. And with that said, until next time, turn to the Nerds.