Most households have at least one monthly debt payment. It can be a mortgage, car loan, student loans, consumer debt, or a combination of several.
Having a mountain of debt can easily lead to excessive financial stress as you struggle to pay the monthly bills and save for future expenses.
Paying off debt fast can be an effective way to improve your finances, but there are debt payoff mistakes to avoid along the way. Paying off debt fast is good, but you don’t want to make these 9 mistakes while doing so.
9 Mistakes to Avoid When Paying Off Debt Fast
1. Not Following a Debt Payoff Plan
Making a plan to get out of debt can focus your efforts, so each extra payment makes maximum progress.
For example, you might make small extra payments for each debt instead of applying the full additional payment to one account until you pay it off.
You can pursue several strategies, and the best one depends on your personal situation and personality.
Two of the most popular debt payoff plans are:
- Debt snowball: Make extra payments for the smallest debt balance first
- Debt avalanche: Pay off the highest interest rate first, regardless of the balance amount
You make the minimum monthly payment with either plan and apply the extra payment to one loan or credit card. You can likely become debt-free sooner with the avalanche method, as paying off the highest interest rate can produce the most interest savings.
You might also personalize your plan to pay off high debt priorities first. For example, you might focus on a car loan that has a history of missed payments. Keeping the account current can prevent repossession.
2. Paying Off Low-Interest Debt First
Making extra payments on low-interest debt inches you closer to the ultimate goal of debt freedom. But, making extra payments on accounts with a higher interest rate first can reduce your total interest charges.
As a result of emphasizing high-interest debt, you have more money in your pocket once you pay off the balance.
If you have a combination of debt with interest rates above 10% and below, consider paying off the higher rates before a 0% payment plan, for instance.
In addition to the current interest rate and the remaining loan balance, consider any potential loan forgiveness benefits.
Depending on your employment, you might also continue making the minimum monthly payments on federal student loans that can qualify for the Public Service Loan Forgiveness program after 120 qualifying monthly payments to forgive the remaining balance.
3. Not Building an Emergency Fund
Studies continuously show that too many households would struggle to afford a $500 surprise bill. Paying off your debts and getting rid of monthly payments reduces your monthly expenses.
If a financial emergency happens after reducing your monthly expenses, you can be more likely to afford it.
However, nobody knows when one of these events might happen:
- Take an unplanned trip to the hospital
- Repair a broken HVAC system
- Take the daily commuter vehicle to the repair shop
- Lose your job or have a reduced work schedule
Consider stashing away between 3-6 months of living expenses before getting more serious about paying off your debts.
While staying in debt longer and having to continue paying interest isn’t fun, you already have a standard debt payment plan that will get you out of debt as long as you make the minimum monthly payment.
After you have a well-stocked emergency fund, you can dedicate your savings to paying off debt. Then, if a surprise bill occurs, you can skip the extra payments until you replenish your emergency fund.
4. Not Reducing Lifestyle Expenses
Setting the world record for paying off your debt in the shortest time doesn’t require most people to live like a cash-strapped college student.
But you should look for places to reduce your daily expenses to find more cash for extra payments and save for other expenses.
Some of these cuts can be temporary. For example, you might go down to one streaming service instead of having three.
You may realize you don’t miss the services in time, and the temporary spending cuts may turn into permanent savings.
5. Forsaking Other Financial Goals
It’s important to make extra debt payments when practical, but you should continue saving for upcoming expenses that may require borrowing money.
Some expenses that arrive sooner than you’re financially ready can include:
- A replacement vehicle
- Home repairs
- Medical or dental procedures
- Children’s education costs
Instead of only applying your extra income to paying down your debt, consider setting aside some money for life’s inevitable expenses.
You may still have to borrow some money or negotiate a 0% interest payment plan. But the amount you may need to finance is lower.
6. Not Investing Enough
Another reason to consider paying off low-interest debt slowly is to invest more money.
High monthly debt payments reduce how much you can invest if you’re living on a small income. Paying down debt reduces your upfront expenses, and you can calculate your total interest savings with a calculator.
However, low-interest-rate debt can mean you save less than you can earn by investing.
For example, many people invest more instead of making extra house payments.
7. Raiding Your Retirement Fund
It’s tempting to use your 401k or IRA to make a lump-sum payment, as you won’t need this money until retirement. If the stock market is in a bear market, using these funds can be more compelling as you’re not making money at the moment.
However, using this debt payoff method to improve your short-time finances comes at a steep price. There are upfront financial penalties, and you risk not having a comfortable retirement.
You see, early distributions from tax-advantaged accounts are subject to a 10% early distribution penalty. So if you withdraw $5,000 (for example), the IRS collects a $500 penalty.
If you’re withdrawing from a tax-deferred traditional IRA or 401k, you also pay ordinary income taxes on the distribution amount. Roth IRAs open for five years or less are also subject to income taxes on the account withdrawal.
While you pay these taxes in retirement, you might not anticipate a larger tax bill as your adjusted gross income includes your day job earnings and the IRA distributions.
In addition to the upfront taxes and penalties, you’re also sacrificing decades of tax-advantaged investment gains. In addition, you will need to replenish your retirement account balance which is a different challenge.
8. Paying High Refinancing Fees
In addition to extra debt payments, refinancing with a debt consolidation loan for a lower interest rate is another way to reduce the total interest costs.
However, refinancing personal loans can have “hidden costs” like origination fees for the new loans and prepayment penalties on the existing debt. You’re more likely to pay origination fees than prepayment penalties, and the lender withholds the fee (typically up to 7%) from the initial loan amount.
Balance transfer credit cards can be an excellent way to get an introductory 0% APR on credit card debt. However, you can expect to pay a one-time balance transfer fee of up to 3%.
Home mortgage refinancing also requires you to pay an appraisal fee and closing costs. The refi savings are not worth it if you’re in the position to pay off the home loan early with several lump-sum payments, or you will be moving soon.
Before refinancing, crunch the numbers and decide if the potential savings are worth the fees and hard credit check.
Making an extra payment equivalent to paying the refinancing fees can be a better move.
For credit card balances, the lender may also be willing to reduce the interest rate temporarily. This step can be enough relief and means you don’t have to open another revolving card account just for a balance transfer offer.
9. Not Having a Plan After You Become Debt-Free
The best time to plan your debt-free lifestyle is while you are still in debt.
It can be easy to solely focus on getting out of debt, and then you don’t have an answer to the question, “What’s next?”
Having the cash you previously earmarked for debt payments sitting idle in the bank isn’t a bad problem to have. A worse alternative can be going back into debt for an impulse purchase that undoes some of your progress.
There are many productive ways to put your money to work.
You might pursue several of these ideas:
- Increase your IRA and 401k plan contributions
- Purchase income-producing assets
- Save for large purchases
- Give more to charity
You can finalize your goals as your debt-free date approaches and start deploying your cash to start working for you.
Tips for Paying Off Debt Fast
It’s an excellent move to pay off your debt as soon as practical, so you have more money for other expenses and goals.
Here are some of the clever ways to pay off your debt quickly.
Have a Debt Payoff Plan
Start by listing your current debt balances, interest rate, and minimum monthly payment. Consider using the debt snowball, debt avalanche, or a customized plan that can help you pay off debt sooner and also estimate your final loan payment.
Make Extra Payments When Possible
It’s great if you can make an extra debt payment each month. However, you might only make periodic payments if you have high monthly expenses or can’t increase your income.
Even if you can only make one extra payment a year (like your tax refund), it’s better than nothing. Just try to send your extra payments as soon as possible so you can reduce the principal amount and accrue less interest. A payment as small as $20 makes a difference.
Sell Items You Don’t Need
There are usually two ways to find more money to make extra debt payments:
- Reduce your monthly expenses: Cancel recurring subscriptions, negotiate lower bills for monthly services, and avoid unnecessary purchases
- Increase your monthly income: Work more hours at work, ask for a raise, start a side hustle
A third way to raise capital is by selling items you don’t need. Perhaps you can sell an item that you’re currently making monthly payments for and can apply the sale proceeds to the loan principal.
Ignore Your Credit Score
Paying off your debt fast and canceling revolving accounts can temporarily reduce your credit score. Several factors influence your credit score, including your credit utilization ratio, the average age of your accounts, and various loan types.
Instead of only focusing on getting your score above a particular mark, like an 800 FICO Score, concentrate on good credit habits instead. A credit score increase is likely to happen soon.
For example, keep making on-time payments, keep your debt-to-income ratio low, and only borrow money when necessary. Building good credit takes several years or decades, and you can eventually obtain a good or excellent credit score as your credit history lengthens.
For now, ignore the short-term effects on your credit score and think about how much interest you won’t pay and how you can use that money more productively.
Becoming debt-free is a process, and the thought of having to make a monthly payment for years can feel as aggravating as wanting to quit an unfulfilling job or curing a medical ailment. You’re willing to do whatever it takes to improve your situation.
As you look for ways to reduce your debt, avoiding debt payoff mistakes can prevent unanticipated financial difficulties.
Tawnya is an elementary special education teacher by day and co-blogger at Money Saved is Money Earned by night.
She holds an Honors BS in Psychology from Oregon State University and an MS in Special Education from Portland State University. She has had a pretty successful writing career, first as a writing tutor at the Oregon State University Writing Center, and in recent years, as a freelance writer.
Tawnya and co-blogger Sebastian have a wealth of knowledge and information about personal finance, retirement, student loans, credit cards, and many other financial topics. They teach people how to save money, make money, and understand money.