How to become debt free?

By Dane King, CPA,CMA,FMA

President, Chartered Professional Accountant and Business Advisor

Stratking Accounting and Tax Professional Corporation

With high levels of consumer debt in North America, you can become comfortable carrying secured and unsecured debt.

Many have become comfortable carrying high levels of consumer debt.

My view is whether the debt is secured or unsecured it is still debt. Your secured debt is only as good as the underlying valuation of the asset or the continuance of your sources of income to service the debt.

Today job loss in small, medium and big companies is more and more frequent, due to the pandemic. It is no longer a situation of being, “too big to fail”. If you lost your job, can you carry the debt? How long will you be able to carry your debt without your job?

Our objective in financial management, is not to fail.

Being debt free is great. It is possible. Is this one of your goals? Then this article was written for you in mind.

Being debt free opens up a stress-free life and new opportunities to use your money to grow your net worth and live life the way it was meant to be, free from financial slavery.

Here are some ideas I recommend to become debt free.

1.      Prepare a Net Worth Statement

Prepare a Net Worth Statement of your assets and liabilities. If your assets are greater than your liabilities then you have positive net worth. If your liabilities exceed your assets, then you have negative net worth and debt reduction should be your number one priority. If the interest in you pay for your liabilities are much higher than the interest you get on your assets, then debt reduction is a priority.

2.      Live in cash

If you don’t have the cash to buy something, you are not ready to buy it. Don’t use your credit card and pay later. For instance, do not go on a vacation unless you have money put aside to pay off the credit card when you are back.

3.      Put in place a Monthly budget

Using a simple App like Microsoft Excel, create a budget of your income and expenses. Look at ways to increase income and reduce expenses over the next 3 months. Implement your revenue increase and cost reduction strategies in the next 3 months. Amend your budget every month as you implement your strategies. Stick to your budget each day. Track actual versus budget weekly. Know your numbers.

4.      Have a debt reduction plan

Design a debt reduction plan which eventually is reflected in your Monthly Budget. Put aside a certain amount of money each month for debt reduction. If you were paying $2,000 towards debt each month, increase it to say $300. Use the extra allocation to pay down the highest interest debt first. When that debt is paid off. Use the saved money to pay off the next highest interest debt and so on.

5.      Build an Emergency fund

Some Financial Planners suggest you do this before reducing debt but I don’t agree since the interest you get in a savings account or money market fund is much less than what you will be paying on the balance on your credit card. So after you determined how much you can contribute towards your debt reduction plan, allocate at least $50 a month towards building an emergency fund, by saving in a savings account, money market fund or bond fund. Since interest bearing non-registered investments generate interest income which is taxable income I suggest you save for your emergency fund in a Tax Free Savings Account  (TFSA) in Canada. Save 3 to 6 months living expenses. After you achieved that goal, do not touch it, unless it is for an Emergency. In my view an Emergency Fund should earn no less interest/return than the average cost of inflation.

6.      Debt Consolidation

Sometimes you may have too many open unsecured credit facilities. It makes sense to consolidate your debts with an unsecured loan at a lower interest rate. Alternatively, if you have a card with a higher limit and lower interest, transfer other card balances into this one card and set up a payment plan to pay it off. If your debts are too much to carry, your credit rating is bad, unable to pay your debts, having sleepless nights, getting collection calls and you may end up going bankrupt, then at a last resort, consider seeing a Trustee in Bankruptcy to file a Consumer Proposal to consolidate your unsecured debt into one payment with no interest. This is the last resort, as for a number of years your credit rating is damaged and you will be unable to obtain  new credit facilities. If you do not consolidate your debts in time, you may end up going Bankrupt, so time is of the essence.

7.      Borrow from friends and family

If you cannot get credit from traditional lenders due to your credit rating, and you have friends or family who can lend you, interest free, then maybe you can approach them to lend you some money to pay off one or more of your high interest debt. However, do not take their relationship for granted. Pay them back.

8.      Work extra hours or start a small business

If your employment income is not enough to pay your bills. Get a new job that pays more. If not, consider getting a part time job to earn more money or start a small business which you can run Part Time. Need help starting a Small Business?, give me a call.

9.      Use low income assets or non - income generating assets and pay off high interest debt

Do you have cash or savings earning next to nothing or investments not performing. Consider using them to pay off your high interest debt and use the money freed up from the reduced monthly debt payment to pay down other high interest debt, so you are paying the same amount towards your debts as below, so it is paid off faster.

10.  Switch investments to income generating assets

You may be in high equity investments earning no income or investments earning low monthly income. It may make sense for now, restructuring your investment portfolio to generate a monthly income, which can be withdrawn to pay down your debt. After your debt is repaid in full you can increase the risk in your portfolio. So maybe for now switch from a Growth portfolio to a balanced portfolio with an income focus. See your Investment Advisor and talk about Monthly Income investments.

11.  Live according to your means

It is not how much money you make but what you do with your money. Live according to your budget. Look at your lifestyle. Are you living your lifestyle or trying to keep up with your neighbors or friends by buying expensive things that does not add value to your net worth? If you want to make real changes in your debt situation, you must commit to give up the extravagant living. Living a simple life syncs with becoming debt free and having financial peace of mind. Live within you means. Stop bad habits and hobbies that burn your cash. Sometimes, you may have to walk away from toxic relationships that drains your energy and racks up your debt.

12.  Reflect on your debt

Take a day off everything for reflection on your life and where you are with your debt. Write a list of your debts, balance, interest rate and monthly payment, total all of them. Each one of them, reflect and ask, what caused this? Knowing the cause, will help you figure out a solution. This list you should provide your Financial Advisor, Financial Planner or Accountant, to get financial help.

13.  Seek Professional Financial Help!

If you are in uncomfortable debt and you do not have a plan to extinguish it, it is time to see a Financial Advisor, Financial Planner or Accountant who has experience with debt management, an element of personal financial planning.

14.  Convince your parents to give you part of your inheritance early

Your parents may be wealthy and you have lots of debt from student loans,etc. Your parents high net worth may result in an estate tax problem when they pass way. They can start an “Estate Freeze: strategy by depleting assets from their estate early to reduce estate taxes upon death. So talk to your parents about giving you part or all of your inheritance while they are alive to help you with a fresh start now, by helping you pay off your debt, today, before it snow balls into a big problem.

These are a few strategies to become debt free. It is important to have a personalized debt reduction plan, just for you, at your comfort level. Instead of 1 year to be debt free, maybe for you, it is in 3 years time, when the financial outlay is less.

If you need further help or advice. See your Financial Advisor or Financial Planner or give me a call for a personal financial planning appointment. Wishing you the best of luck!

Dane King is the President, Chartered Professional Accountant and Business Advisor with Stratking Accounting and Tax Professional Corporation, the full service CPA accounting firm based in Richmond Hill, Ontario, Canada, which helps professionals and professional services firms, stand out from the crowd with planning, accounting, tax, and advisory services.

Dane is a Chartered Professional Accountant (CPA), Certified Management Accountant (CMA), Chartered Global Management Accountant (CGMA), and Financial Management Advisor (FMA). He is a former Lecturer in Accounting and Professor Retirement Planning, Marketing and Taxation. For over 20 years Dane has been helping corporations measure their success, increase profitability and grow revenue and helping individuals reduce taxes and grow their wealth.

He can be reached at 1-888-865-3870, 416-270-6608 or email [email protected]