Due to the easy availability of money in the current age, several millennials tend to take rely on credit to fund their lavish lifestyle. Very soon the debt spirals out of control and they are left facing a mountain to climb to become financially independent. At that time they ponder hard on how to escape the debt trap. Just like quicksand, one can be very quickly sucked into a debt trap if the debts are not monitored judiciously.
Step 1: Problem identification and acknowledgement
Just like any other area of life, it is possible to solve a problem only after identifying it and acknowledging it. If you can identify any one or more of the red flags listed below then you need to pay heed to the fact that your debts may be spiralling out of control.
a) Credit card maxed out
If you have multiple credit cards and you are on the verge of or have already exceeded the credit limit, you are most likely in a debt trap.
b) Growing EMIs
If you have begun to miss your EMIs and are incurring penalties, this is a bigger challenge. You may already be in a debt trap, if it looks unlikely that you will be able to clear your EMIs in the foreseeable future.
c) Debt takes a big bite out of your salary
If all your debt repayments put together is turning out to be a bit percentage of your salary, or you are relying on your past savings to repay debts, then you are very deep in the debt trap and need to escape at the earliest.
Step 2: Debt Laddering
We first need to realize that all debts are not equal. Some debts have a long repayment period and low interest rates, like a home loan. Whereas a credit card has very high interest rates, often in the range of 35-45% annualized.
You need to prioritize debts in order of interest rates and penalties. Focus on paying off those that carry very high-interest rates. Also, you can visit your bank to discuss restructuring long term loans. You may end up paying a higher interest but it will take a smaller portion out of your salary every month. This would allow you to focus repaying the high-interest loans immediately.
Step 3: Develop healthy financial habits
The rule of thumb when it comes to money management, is to spend less than you earn. Create a budget and stick to it. Look at ways to augment your income, either by taking up a second job or upskilling yourself.
You can learn more about developing healthy financial habits by reading our article Financial Resolutions for 2021. This should help you to take steps to escape the debt trap.
Step 4: Look to prepay your debts
If in any month you get a bonus or incentive, look to use that money toward your debt repayment. This should help to reduce the interest being charged, and make it easier to escape the debt trap. Do not seek to see out the full period of the loan.
Step 5: Have adequate insurance
Having adequate insurance to protect you and your family should help you tide out any unfortunate circumstances. The insurance payout would take care of your hospital bills and you would still have money to repay your debts. This will ensure that you are not forced deeper into debt.
Hope these steps would help you to escape your debt trap and set you on your way to financial freedom and independence.