How to get out of debt and be debt free always?
Pay off debt aggressively and save aggressively.
Welcome to the part 2 of the 2 part series on Debt and how to avoid debt.
If you haven’t already read the part 1 of this series, then you can read it here.
In this edition of the Minutia newsletter, let’s discuss how to pay off debt quickly, things to focus on when it's tough to avoid debt, and finally how to stay debt free?
Everyone should have a place to call home.
Many of us would work our entire lives to own our dream house. Returning home comforts us after a long day at work.
Even though, owning a home is becoming less desirable among the millennials. Many people have an emotional tie to their home, especially after retirement.
However, because land is limited, it has become a valuable commodity with a high purchase price. And for most of us, owning a home without taking out a loan is unavoidable. Even if we own the land, some of us may need to take out a loan to construct the house.
How to repay loans quicker?
Home loan repayment tenure usually tends to be around 20-25 years, which is a significant portion of our working lives.
Let's say we need to take out a 30Lacs home loan with an interest rate of 8% and a repayment tenure of 20 years. By the end of 20 years, we will have paid the bank a total of 60.23Lacs. The EMI is 25,093 per month.
If we try to repay the same 30Lacs loan in 15 years then we will end up paying the bank a total of 51.6Lacs. We would save roughly 10Lacs if we had a 5-year shorter tenure. This implies that the longer we keep a loan ongoing, the more money we will pay the bank (Negative Compounding).
As a conclusion, the only method to get out of debt quickly is to reduce the time period by rapidly paying off debt.
The most effective approach to do so is to increase the EMI amount by 5-10% each year. Increasing the EMI payment by 10% per year would reduce the tenure by nearly ten years. By this, we can drastically reduce the duration of the loan as well as the sum of money paid to the bank.
This applies for loans which are already taken. But what should we do if we can't avoid taking out a loan?
If we can’t avoid taking a loan, then must try going for a higher down payment, lower interest rate and a shorter repayment tenure to make sure that we are not locked in for longer duration.
But what about education loans?
We can do the same thing with education loans; we can pay them off rapidly by raising the EMI amount by 5-10% each year.
Meanwhile, we can take advantage of the government's tax benefits for home loan and education loan repayments.
Finally, because home is an emotional attachment and education is the best investment of all. We must limit our loans to solely home and education loans.
But how to avoid debt and be debt free always?
Of Course, we can avoid debt if we had infinite amount of money. But unfortunately, we don’t have it.
As a result, avoiding debt requires a change in attitude towards money life. And the biggest difference would be not to upgrade one's lifestyle before increasing one's income.
When we get a raise in income, we typically begin thinking about our next major purchase. Rather than thinking about saving more and investing more.
In fact, saving more and investing more will enable us to afford more stuff than our higher income will allow.
If we can’t buy a thing twice, then we can’t really afford it.
The habit of saving first and spending later is the second major shift in one's approach toward being debt free.
Majority of us do the opposite, we pay the bills, EMIs, and save whatever money is left over at the end of the month. And this only forces us to stay on a paycheck to paycheck.
So the wise thing would be to save first and spend later.
Always be prudent!
The habit of saving is critical in determining how fast we will achieve financial independence. We will discuss on saving as a topic in the future editions.
In Conclusion:
Being debt-free is the very first step toward wealth creation.
Once we are debt-free, we can begin to create a financial system for ourselves. So we can increase our purchasing power even without an income raise, take care of our future emergencies without having to worry about loans repayment and invest for any financial need without a fear of losing money.
Always be debt free, so you can save more, spend more, invest more, be free, be at peace and above all to get wealthier quickly.
Let’s start building the first part of the financial system in the next edition - Emergency Fund.
Until next time.
Peace out!