Rebuilding Wealth from Debt in a Credit Economy

If recent market activity demonstrates anything, it is that we are living in a credit economy. We live in a society where wealth is more a matter of your credit worthiness than your annual income. Few people make enough money to buy a house or send their children to college without loans. Most of us even need credit from time to time to purchase cars. The majority of those who can make these purchases with cash have that much cash now because they leveraged credit lines at some point in the past. It all comes down to cash flow, or your ability to make payments on time and the availability of funds when good investment opportunities present themselves. For most people, this means that wealth in the credit economy is based on credit scores.

Getting Out of Bad Debt Situations

As an honest person, you don't want to fail to pay those who have trusted you with debt. You also don't want to continue to pile up more debts. How do you get runaway debt under control? The odds are that you are in this situation because you don't know the answer to this question.

You have to start by prioritizing debt. Certain bills have to be paid on time each month and other bills can be paid a little bit late without consequence. Don't give in to the temptation to pay the pushiest creditors first. Instead, pay the most important creditors first. Clothing, food, water, electricity, and sanitation are priorities and should be paid first, but you also need to make sacrifices like buying less expensive food and clothing and using as little air conditioning, lighting, and heating as possible. A few dollars each month add up to a lot of dollars over time.

If you have a home loan, it needs to be your priority, provided your home is worth more than your home loan. Your home is not just an investment, but a part of your identity. You will likely need to pay to live somewhere, so your money might as well go into building your home equity. But if there is no way you can make the payments, you need to sell your home while you can.

Cars do not hold their value very well. Unless you live in the city near where you work, you probably need to have a reliable car, but not an expensive one. One of the worst decisions commonly made is buying a vehicle beyond one's means. If you are in heavy debt and you owe a lot of money on a car, getting out from under that car loan and getting a more reasonably priced used car is a great start to getting back on your feet.

Credit cards are a great tool for those without debt and a curse to those with debt. Credit cards tend to be the most expensive form of debt, so paying off credit card debt should be a priority. In fact, when you are in debt you should avoid using credit cards at all. You may think that low interest offers are a good idea, but most credit cards have fine print that allows them to charge you extremely high interest rates at their discretion if you are late on payments to them or any other creditor.

You should look into taking advantage of any government relief programs available to you. Many people end up in bankruptcy purely out of ignorance of available relief funds. Some charities also provide specialized financial help. Just make sure you look carefully at any terms attached by nonprofit companies promising to help you out of debt.

Staying Out of Bad Debt Situations

Once you get everything prioritized and budgeted, you need to do whatever is necessary to prevent recurrence of your debt situation. It may seem obvious, but the key to staying out of debt is spending less money than you earn. It is okay to take on a home loan if you can easily make the payments, but you should avoid using credit to purchase things that decline in value such as cars. The same goes for credit card purchases of everyday items.

Make clear distinctions between what you need and what you want. For example, you need clothing, but that doesn't mean you need brand name or designer clothing. That is something you want, which is okay to purchase only when you have paid for what you need. In the long run, you will find that you have a lot more of those things you want when you live within your means.