How Paying Down Debt Helps You Save

This week is America Saves Week, a national campaign to raise awareness about the importance of savings, and a time to celebrate accomplishments related to saving money and working toward financial goals. Saving money—as simple as it may sound—can be a somewhat complex topic. It’s not particularly hard to understand, but there are many different ways to think about saving, and to build a plan for saving more money. Today, let’s take a look at the relationship between debt and savings. Specifically, how does paying off debt help you save?

The Basic Formula

To be successful financially, and to save effectively, you have to remember a basic mathematical goal: that your income should be greater than your expenses. To reflect that mathematically looks like this: Income > Expenses. That’s pretty simple, right? If that is not true and your expenses are actually greater than your income, then it will be impossible to save money.

That’s because your savings is generally what’s left over from your income after expenses. So that formula looks like this: Income – Expenses = Savings. Now, there are two things to note about this. First, how much “savings” is left over after you subtract expenses may be in your control. Think of it this way, all income will eventually become spending (expenses) or savings. In other words, don’t assume that “expenses” are only the mandatory items like groceries, utilities, and housing. They also include discretionary spending, which are expenses you don’t make because you need to but because you want to. By limiting those purchases of “wants,” you can increase savings.

The second thing is that “expenses” means your non-saving expenses, and income is your gross income. That probably sounds obvious, but it isn’t always. Many people save automatically from each paycheck, which is a great strategy of “paying yourself first.” However, you don’t want to forget about that savings coming out before you get the check. Those automatic savings funds are being deducted from your gross income, like an expense, but are actually part of your savings.

What About Debt?

A recent study indicated that the average American household has over $145,000 in debt. Now if that figure seems incredibly high, it’s because the figure includes many types of debt, including mortgages. But with the average household with student loans averaging over $55,000 in that debt, and the average household with credit card debt averaging over $7,000, we know that there are significant challenges facing millions of American households.

Debt throws a wrench into the formula we mentioned above, because debt increases your expenses, often significantly. As a result, debt makes it so that there is less money left after your expenses, if anything at all. Basically, debt and savings are at direct odds with each other.

Paying Off Debt to Save More

You’ve heard the old saying that “a penny saved is a penny earned,” and it’s also true that “a penny of debt paid off is a penny saved and therefore a penny earned.” That’s more of a mouthful, but hopefully you get the point. For every bit of debt you can erase, you will free up more room to save.

That is a very direct relationship between debt and savings, but it isn’t the only one. Paying off debt also has other benefits that can help you “save” more over time. Here are a few examples:

Paying down debt helps you contribute to an emergency fund, so that you may not have to take on more debt and wipe out your savings when faced with an unexpected set of circumstances.
Paying down debt helps you achieve other financial goals, like buying a house, that can help you build equity, which operates much like savings.
Paying down debt effectively makes your savings and investments lower-risk. When you don’t have debt to worry about, you can more easily take a set-it-and-forget it approach to investing and retirement planning, without feeling like you need to pull out funds early to pay a debt.

These are just a few examples. But the basic idea is that when you don’t have to worry about debt, you’ll have more money for savings each month, but also more flexibility for how you use that money and how it can work for you over time.

Hopefully you are making progress on these two important financial goals of paying down debt and building your savings. Now is a great time to take inventory of where you stand, and to make a plan for the year ahead. Remember that if you would like additional assistance, our counselors can help in a free counseling session, and we invite you to get started today.

The post How Paying Down Debt Helps You Save appeared first on NFCC.

Read more: nfcc.org

Read more

Ask an Expert: Are Debt Settlement Companies Legitimate?

The NFCC often receives readers questions asking us what they should do in their money situation. We pick some to share that others could be asking themselves and hope to help many in sharing these answers. If you have a question, please submit it on our Ask an Expert page here.

This week’s question: Are any debt settlement companies legitimate? Do they have to be licensed?

The debt relief industry has been growing in recent years, and debt settlement companies, also known as debt relief or debt adjusting companies, have been a part of that growth. Debt settlement is not the right repayment strategy for everyone. It usually benefits people who are already in debt and cannot afford any other debt relief option and are trying to avoid bankruptcy. There are legitimate debt settlement companies, and in most states, licenses are required. They must abide by industry regulations that seek to protect consumers. However, working with a legitimate company can be risky and turn out to be more expensive than other repayment options.

The Risky Business of Debt Settlement

When you settle your debt, you work out an agreement with your creditor to pay off your debt for less than what you owe. Debt settlement companies manage those negotiations for you. They may even ask you to set up an escrow-like account for you to send in payments. By law, they cannot charge any upfront fees and have to clearly inform you about all fees and payments. But, if you make just one payment under one of their settlement agreements, you may be on the hook for all fees related to the program, even if you have not paid off all your debts.

Debt settlement agencies cannot guarantee the outcome of a negotiation. In fact, your creditor may refuse their offers. And if you stop making payments on your debts while working with a debt settlement company, which is what some debt settlement companies advise, you will start accruing late fees and interest and could even face collections or a lawsuit. All that, in addition to a dramatic negative impact on your credit.

Another thing to keep in mind is that any forgiven debt greater than $600 is considered taxable income. So, be prepared to receive a 1099-C form to file with your taxes if your forgiven debt meets that criteria. When you add the company fees and any potential taxes, a debt settlement may not be saving you as much as you would have hoped.

Your Debt Relief Alternatives

Depending on how much you owe and your current status with your creditors, you may have other debt relief options. You can try nonprofit credit counseling as a way to connect with a financial counselor who can review your situation and offer free or low-cost advice to help you create a debt repayment strategy. Another option is to settle your own debt, working directly with each creditor. It may take time and often more than one call, but you can contact your creditors and offer reduced payments. Be sure to offer payments that you know you can afford and always get any new agreements in writing.

Choose Wisely

If you decide to let a third-party debt settlement company handle the situation for you, make sure you work with a reputable institution. Do your research and look for reviews and complaints online about the company you plan to work with. Check with the Better Business Bureaus and contact your state attorney general and consumer protection agencies like CFPB to determine if there are any complaints or enforcement actions against the company. They can also help you find out if the company is allowed to operate in your state and meet the license requirements. Be aware of red flags such as upfront payments and a failure to disclose fees.

The post Ask an Expert: Are Debt Settlement Companies Legitimate? appeared first on NFCC.

Read more: nfcc.org

Read more