What Type of Debt Should You Pay Off First?

Just last year, U.S. News and World Report published survey results that suggested the average amount of credit card debt in U.S. households is at least $15,000. For a country with a median wage of just about $26,000 and household income is a little over $50,000, that’s really a high debt level. Besides credit cards, other common household debts include mortgages and vehicle loans.

While most people hope to minimize debt, it’s clearly impossible for most to simply write a check to make it evaporate. Instead of hoping to pay off all debt, it’s most important to understand that different kinds of debt exist. Also, some types of debt are worse than others.

Kinds of Debt

There are two basic types of debt:


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  • Secured debt: This is debt that is secured by some kind of asset Two very typical examples of secured debt are home and auto loans.
  • Unsecured debt: This type of debt isn’t secured with an asset. Personal loans and credit cards are examples of unsecured debt.

 

Credit bureaus, like Equifax, typically favor secured debt. Making regular payments usually helps improve credit scores. Making regular payments on unsecured debt may not be enough to get a greet credit score. This is because credit bureaus also look at debt ratios when they consider unsecured debt. In addition, interest rates for mortgages and car loans are generally much lower than they are for personal loans and credit cards.

Which Kind of Debt Should Get Paid Off First?

Before worrying about an extra payment on your home mortgage, you should consider reducing credit card balances. You will almost always do your finances and your credit scores a lot more good. Even though you may hear a lot of advice about how much money you can save by paying off your mortgage early, you have to consider the interest rate you are paying on that mortgage. You also have to compare it to interest rates that you may have on your personal loans and credit cards. In some cases, it’s better to hang onto your cash or use it to pay down credit cards. If you do have financial problems, cashing out home equity is not as easy as it sounds.

 

 

 


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