How to Stay Out of Debt: 7 Simple Tips
If you’ve managed to clear your debt, that’s a huge achievement. Here’s how to keep it that way.
September 15, 2022
It can be tough to get out of debt, but something we don’t talk about enough is the difficulty of remaining debt-free. If you would need to borrow money to cover an unexpected expense, it’s important to improve your situation. The key to doing so is understanding how to stay out of debt for longer.
In this article, we’ll cover the most common types of debt in the US and provide you with seven simple tips on avoiding the need to borrow. Whether your financial goal is to achieve financial security or to curb overspending, we’re here to help.
The most common types of debt
If you want a fair chance at staying out of debt, you first need a solid understanding of how it works and what you need to look out for. Here’s a primer on the different types of debt and how they impact your financial situation.
Credit card debt
Credit cards are known as revolving debt, which means borrowers can use up to a certain amount (the credit limit), then repay all or a sum of their balance and spend up to the limit again. This differs from the loan types outlined below, which involve fixed loan amounts and monthly payments.
Americans have an average of $5,221 in credit card debt, making it one of the largest sources of debt in the United States. Unfortunately, credit cards also carry some of the highest interest rates of the available lending options, sitting at around 16% (as of August 2022).
The problem with facing such a high APR is that interest compounds, meaning you're charged interest on top of interest. Let's say you have a $100 balance on your card and pay $10 in interest. Your next interest charge is based on your total $110 balance, so the next month, you’ll have to pay $11.
It’s easy for this to spiral out of control, so you should take care to pay your credit card balances in full each month — or, at the very least, to never miss your minimum monthly payment. Otherwise, you could go from debt-free to indebted very fast (and also hurt your credit score).
As of 2021, the total outstanding mortgage debt in the United States is $10.3 trillion, making home loans the country's largest source of consumer debt. However, they often carry lower rates, with the average for a 30-year fixed-rate deal standing at 5.7% (as of September 2022).
Plus, unlike credit cards, mortgages are often fixed-term loans, which means homeowners know exactly how much their monthly payments will be. This makes a home loan one of the more straightforward types of debt to account for when budgeting.
However, it’s worth noting that in order to secure a mortgage, the home you’re buying is put up as collateral, which is an example of a secured loan. This means that if you default on your mortgage, the bank could potentially repossess your home, so it’s still crucial to keep up with payments.
There is approximately $1.75 trillion in student loan debt in the United States, and the average public university student borrows $32,880. That’s quite something. Meanwhile, federal loans (which make up the vast majority of student debt) have fixed interest rates, and the average rate is 4.12%. Meanwhile, the rates for private loans can go as high as 12.99%.
While federal student loan interest rates can run significantly lower than credit card rates, student loan borrowers are plagued by much higher principal balances. So, although you can easily factor your student loan repayment into your monthly bills, it takes many graduates years of dedication to pay it off.
If you’re considering taking out student debt of your own, you should weigh the pros and cons carefully.
Americans owe more than $1.43 trillion on car loans, and the average balance is more than $20,000. Like mortgages, car payments are fixed, making them simple to fit into your budget, although they have shorter loan terms (usually 72 months).
However, the rates for auto loans are often higher than mortgage rates. The average rate for new cars is just 3.86%, but the average for used cars is significantly higher at 8.21%, according to Experian data from Q4 in 2021.
In addition, car loans are secured loans, so if you miss debt payments and default on the loan, the bank can repossess your vehicle.
Combined with the higher rates for used cars, this means that taking out a loan for your vehicle is a huge consideration. Buying something cheaper outright can help you avoid debt.
In the last quarter of 2021, borrowers had 22.8 million unsecured personal loans (there are also secured personal loans, which are less common). The loan type can be used for various purposes, from debt consolidation loans to covering medical expenses.
The average rate for a 24-month personal loan from a bank is 9.41%, which is less than a credit card but higher than other loan types such as mortgages and federal student loans. All in all, it’s a hefty amount, and it’s best to avoid these loans when possible.
There are more loan types than those mentioned above, such as home equity lines of credit (HELOC), but these are the most common and the ones that the average American struggles with when it comes to staying out of debt.
How to stay out of debt: 7 tips
Obtaining an education or car, or borrowing money to fund emergencies like medical expenses is often a need rather than a want — so it’s no surprise that the average American has $90,460 in debt. If you’ve made it to the other side and become debt-free, you should feel proud of what you’ve achieved. But that doesn’t mean it's time to sit back and stop thinking about your finances. Seize the opportunity to achieve financial freedom.
Below, we’ve pulled together our top seven tips on how to stay out of debt and manage your personal finances.
Disclaimer: You don't have to be completely out of debt for the tips below to help!
1. Evaluate your past debt
If you’ve had debt in the past, the most crucial step to ensuring you stay out of debt from now on is ensuring that you understand where you went wrong previously.
Was it due to poor financial habits, such as living beyond your means? Perhaps you had essential expenses that forced you to borrow, like taking out student loans to kickstart your career.
Understanding what happened and improving your financial situation can help you avoid future missteps and stay debt-free. Even if these situations were unavoidable, chances are that you can take action to minimize the chances of having to take out a loan if something similar happens again. For instance, you could work on building a financial safety net to cover these costs next time, such as an emergency fund.
2. Build an emergency fund
An emergency fund is a source of easily accessible money that you can use to cover expenses you don’t always anticipate, like:
Trips to the hospital
An emergency pet surgery
A new transmission for your car
This is essential if you're wondering how to stay out of debt. Next time you need to pay for something urgent, you can dip into your own funds instead of turning to lenders.
Start by putting $5 per week into a savings account. If you do this for an entire year, you'll have more than $250 saved. It may not seem like a huge amount of money, but that’s $250 less on a credit card. Continue to build this fund over time so that you’re prepared when an emergency arises.
3. Set a budget and spend only what you have
The key to staying out of debt is avoiding the need to take out a loan in the first place — and for that, you need to have a good grasp on your finances.
Take a look at your spending from the past few months to help figure out where your money is going. Sort expenses into mandatory and discretionary spending. For example, buying groceries is mandatory, while dinner out with friends is discretionary.
If you notice a lot of the money is disappearing into things you don’t need, it may be time to tweak your spending habits by creating a budget. Allocate a certain amount to each area of your life (e.g., bills, gas, entertainment) and make sure you have some extra cash at the end of each month for savings.
It might help to follow a rule of thumb like the 50/30/20 budget, which involves allocating half of your budget to mandatory spending, 30% to discretionary expenses, and everything else to savings or debt.
To make this easier, it may help to use cash or a debit card instead of a credit card, as your bank account will reflect the impact of the spending immediately. This is an excellent exercise to help you realize just how challenging it is to stick to a budget and why doing so is necessary to stay out of debt.
4. Pick up a side gig
Nearly half of Americans have at least one side hustle: A job they work in addition to their full-time position to bring in some supplemental income. If you’ve worked out your budget and you’re unhappy with how little you have left over to spend on luxuries, this is a great option. There’s a side hustle for everyone, from freelancing to delivery driving.
Earning extra money, even if it’s only $1,000 or $2,000 per year, gives you some extra room to breathe financially and may help you pay off existing debt faster.
5. Cut unnecessary expenses
As well as bringing in extra income, another way to give you more breathing room is to cut your expenses. This doesn’t necessarily have to mean giving up your hobbies or your favorite foods — for most people, there’s plenty of low-hanging fruit.
We live in a subscription-heavy society. From Netflix and Spotify to gym memberships, you could find yourself charged a couple of hundred dollars per month for various platforms and services. Chances are, you're not using all of these monthly subscriptions and can cancel some.
Additionally, take a look at your cellphone bill. Perhaps you don't need an unlimited data plan or all of the minutes you're paying for. Cutting $10 per month from your phone bill adds up to $120 saved per year.
6. Take advantage of automation
It’s harder to manage your debt and finances if you’re trying to work out everything yourself. We don’t all have the time to budget manually or go through our finances with a fine-toothed comb.
Fortunately, you don’t necessarily have to — we live in the 21st century, and automation and apps are your friend.
If you’re continuing to use a credit card and ensuring you pay off your balance each month to avoid interest charges, consider setting up automated payments from your bank account so you never miss another due date.
Consider apps that track your budget by syncing automatically to your bank accounts, like Mint, or apps like Acorns that help you save by rounding up your purchases (e.g., you spend $2.88 and the app puts $0.12 into savings automatically).
You can even use apps to negotiate bill prices or control your subscriptions, like Rocket Money.
7. Know how to nip potential debt in the bud
In an ideal world, following all the tips outlined above would protect you from ever falling into debt again. But things aren’t always so simple. If you do find yourself borrowing, the best thing you can do is nip the problem in the bud by following proper debt management and prioritizing the most urgent debt first.
According to the debt avalanche method, this means choosing the debt with the highest interest rates. For most people, that’s going to be your credit card.
If you're trying to stay debt-free, a payoff app like Tally† could help. Tally consolidates your highest-interest credit card debt into one lower-interest line of credit and automates your credit card payments so you only have to make a single monthly payment. It’s an effective option to get a handle on debt.
Stay out of debt once and for all
As we’ve seen, most Americans struggle with debt — but you don't have to be one of them if you’re confident in how to stay out of debt. The first step is ensuring that you understand how the most prominent loan types work. Then, once you’re in a good position, keep the momentum going by following the tips outlined here and knowing how to address debt before it can develop into a problem.
Even when you’re out of debt, managing your personal finances can get complex. If you’ve realized you still have a lot to learn, or you’re simply looking for more motivation along your journey, subscribe to Tally's newsletter for more advice like the tips found here.
†To get the benefits of a Tally line of credit, you must qualify for and accept a Tally line of credit. The APR (which is the same as your interest rate) will be between 7.90% and 29.99% per year and will be based on your credit history. The APR will vary with the market based on the Prime Rate. Annual fees range from $0 - $300.