Credit cards that are maxed out or nearly maxed out become a burden instead of a convenience. With little available credit, they no longer are useful for emergencies or other unexpected expenses, the high balances can damage your credit scores, and the debt can become unmanageable when high-interest rates make it difficult to pay down the balances.
Know When to Rein in Your Spending
No external gauge lets you know when your credit card debt is getting out of control. Your credit card issuers aren't going to warn you that your balances are more than you can afford to pay. Instead, it's up to you to watch for these 10 signs that show that your debt is out of control:
- Cards are maxed out or above the credit limit. This can happen quickly if you don't pay your balance every month. Multiple maxed-out credit cards compound the problem. If balances exceed limits, expect the card issuer to raise your interest rate, making it even more difficult to pay down your balance.
- You can't afford to pay anything except the minimum payment. Minimum payments are the lowest amount you can pay on your credit card to keep your account in good standing. If you can't pay more than that, and you're still using your credit cards, your debt is getting worse each month.
- You're late or missing payments. Missed payments further compromise your credit health. Late payments increase the amount you have to pay to get caught up and lead to late fees added to your balance. If your card is maxed out, those late fees could push your balance over your limit.
- You're paying your credit cards with other types of debt. Cash advances, repeated balance transfers, payday loans, or any other form of debt to pay your credit cards simply create more debt by borrowing money to stay afloat.
- You're using credit cards for necessities and everyday purchases. Credit cards are a convenient way to pay for groceries, gas, and other daily necessities—and you might even earn rewards points or cash back for doing so. This is great if you're paying the balance every month. If not, needing credit to pay for everyday expenses is a sign of bigger financial problems.
- Your credit score starts dropping. If your total credit card debt is more than about 30% of your total available credit, your credit score will take a hit. This ratio accounts for 30% of your total credit score. So, if the credit limits for all of your cards combined amount to $5,000, you never want your combined balances to add up to more than $1,500.
- Your new applications are denied. Credit card issuers may be able to predict that your credit card debt is out of control even before you do. After a denied credit card application, check your mail for a letter from the credit card issuer, explaining why you were denied. If your high credit card balances are one of the reasons, it's a sign that you need to rein in your spending and start tackling your debt before it gets worse.
- You're hiding your debt. Feeling like you have something to hide is a sign that things are wrong. If you're not opening your credit card statements because you don't want to face your balances, or you're going out of your way to keep your spouse from finding out about your debt, you likely have more debt than you can handle.
- You can't afford to save money, because you have too much debt. The more money you spend on your debt, the less you have for other things—like saving money. Without access to savings, you may have to create even more debt to get out of a financial bind.
- You worry about how you're going to pay off your credit cards. Stressing about your credit card debt is a sign that it's definitely out of control, but don't assume that because you're not stressed about your debt that you're safe. It could be that you're ignoring your debt, or you could be in denial about just how bad it really is.
The old adage about the first step toward climbing out of a hole applies here. In order to get your debt under control, the first thing you need to do is change your habits so that you're not making the problem worse.
Quite simply, stop using your credit cards. If you keep using them, your debt will only grow, making it more difficult to pay down. If at all possible, though, avoid closing accounts. Because your debt utilization ratio is an important part of your credit score, you want to grow your available credit as you pay down your debt in order to improve your credit score.
Eliminate Your Debt
Acknowledging the severity of your debt is an important first step, but you have to take action to address the problem. You have to come up with a workable plan and stick to it—and sticking to it might be the most important part. Getting rid of debt can take a long time, and results might not be evident at first. Be patient and persistent, and eventually, your efforts will make a difference.
There are multiple ways to tackle your debt, and what's best for you depends largely on your financial situation and also a little on your own personality. Consider what's best for you and your situation.
- Eliminate high-interest debt first with the avalanche method. This makes sense because high-interest rates can be the biggest obstacle to eliminating debt. If you're paying a double-digit interest rate—or something even higher than 20%—it can be difficult to pay down balances. The sooner you can lower the balance on those high-interest debts, the more impact your monthly payments can have. If you still have decent enough credit, it's also worth considering applying for a new credit card with zero percent interest on balance transfers for a period of time. Adding another credit card might seem counterintuitive, but if you can be disciplined and do so only as a means to eliminate some of the interest you're paying, it's an effective strategy.
- Try the snowball method. Author and radio host Dave Ramsey popularized this method. Target the lowest balance first, then move to the next lowest balance, and so forth. While this strategy likely will result in paying more in interest than the previous method, it can be a good approach if you need a boost of confidence when tackling your debt. Because you're starting with the lowest balances, you'll eliminate them more quickly, thus giving yourself a sense of accomplishment as you work through your indebtedness.
If the above strategies don't work, you might consider seeking outside help. Nonprofit credit counselors can help you organize and manage your finances. If the situation is dire, they can also arrange a debt management plan (DMP) with your creditors. The counselor will negotiate with your creditors, often reducing interest rates, and will take care of all payments. You will send one payment to the agency. Your credit score will likely be negatively affected, at least in the short term.
Some for profit agencies offer "debt settlement" for a fee. This option should only be considered as a last resort, as debt settlement can have a significant impact on your credit score.