DIY Financial Plan step 6:
How to manage DEBTS?

Reading Time: 2min 21sec

31-Mar-2024

Introduction

In today's fast-paced world, borrowing money has become a common practice and an easy alternate for procuring the necessities without postponing due to lack of money. We have so many debt solutions available like Buy Now Pay Later (BNPL), Travel Now Pay Later (TNPL) 🙈, and now-a-days Marry Now Pay Later (MNPL) too! 😄

Whether it's purchasing a home🏡 or a car🚗, taking loans has become a convenient option for achieving various life goals.

We learned in our second blog that ~30% of your income should go towards the total EMIs or other liabilities, including home loans, auto loans, education loans or personal loans. In this blog, we'll explore practical strategies for managing debts along with real-life examples to help you navigate your debt journey.

How to manage debts like a pro?

When it comes to handling debts, it's essential to carefully consider our financial situation and affordability.

For example, while buying a home, experts recommend aiming for a property that costs between 3 to 4 times your annual household income. Aim to close off the loan account 5 years prior to your retirement.
Refer to this article to know more about whether one should prepay home loans or not!

Similarly, while purchasing a car (which is a depreciating asset), the cost of the vehicle should be around 40 to 50% of your annual income. Additionally, keep in mind the rules mentioned in below table to keep your budget right for these goals!

Let's understand this with an example

Let's consider the case of Mr. and Mrs. Sharma, a couple earning a combined annual income of 30 lakhs.

With this income, they can afford a home costing 90 lakhs - 1.2 crores.
For a car, they should aim for something between 12 - 15 lakhs.

Home loan of Rs.80 lakh taken @ 8.5% interest rate for 19 years, Sharmas' are liable to pay Rs.70,000/- every month as home loan EMI (28% of monthly income)
Similarly, for a car loan of Rs. 10 lakh taken @ 9% interest rate for next 4 years, they have to pay an EMI of Rs.24,000/- every month (10% of monthly income)

By adhering to these guidelines and making informed financial decisions, the Sharmas’ can successfully manage their debts while maintaining financial stability and achieving their goals.

Right Ways to Manage Debt

Effective debt management involves more than just making timely payments.

It's essential to prioritize debts based on their interest rates. For example, loans with higher interest like credit cards (36% p.a.) or personal loans (15-16%) should be tackled first.
Do negotiate with creditors, keep a note of repayment & pre-closure terms & compare various banks' loan rates to get the lowest interest rates.
Creating a budget and sticking to it can also help allocate funds towards debt repayment while covering essential expenses and investing for future goals.
Last, and most important, don’t buy leisure with debt! We should always avoid purchasing those wants that we DON'T need with the money that we DON'T have! Debt should only be considered for unavoidable or must-have goals.

Conclusion

Managing debt effectively is a critical aspect of financial planning and wealth management. By understanding your financial situation, following right payoff strategies and setting realistic goals, you can navigate your debt management journey with confidence.

Whether it's a home loan, car loan, or any other type of debt, the key is to make informed decisions, prioritize repayment, and stay disciplined in your financial approach.

And finally, don’t fall in the debt trap just for leisure!

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