The economy is improving, the stock market is setting records and, unfortunately, we're still addicted to debt. Despite the lessons of the Great Recession, we've racked up more than $118 billion in new credit card debt and defaulted on another $176 billion in old debt since the beginning of 2010. The average household now owes roughly $6,700 to credit card companies, and the personal finance landscape is therefore ripe for resolution-making.
In fact, if we as consumers do not come to the group realization that pre-recession spending habits are no longer sustainable without the housing bubble's support, our continued overleveraging will eventually derail the economic recovery. Interestingly enough, however, getting out of debt shouldn't actually top your New Year's self-improvement agenda. That distinction, as you'll see below, instead goes to crafting a well-thought-out budget and building an emergency fund.
Resolution #1: Stick to a Budget - Our prodigious credit card debt is perhaps less surprising when you consider that only 40 percent of U.S. adults have a budget and keep close track of their spending habits, according to surveys from the National Foundation for Credit Counseling. Since that type of laissez-faire money management clearly is a recipe for disaster, it's important that you reevaluate the affordability of all your recurring monthly bills. Eradicating trivial expenses, carefully allocating funds to necessities, and tracking your performance over time will enable you to adopt a debt-neutral lifestyle and, in turn, garner financial stability.
While pen and paper or a nice Excel spreadsheet will certainly do the trick, you might also want to check out some of the new budgeting apps that have hit the market in recent years. By linking all of your financial accounts to one of these apps, you'll garner a more holistic, comprehensible picture of your financial situation and performance. Another helpful strategy is to use different credit cards for carrying debt and making everyday purchases. Since everyday expenses, by definition, should be affordable within the month, you'll reduce the interest you pay and gain a built-in overspending alarm system. If finance charges ever appear on your everyday account, you'll know to cut back.
Resolution #2: Build an Emergency Fund - The budget you construct should include a monthly allotment for emergency fund contributions as well as debt payments. The former should be your more immediate priority because debt freedom won't do you much good if you lose your job or an unexpected medical expense crops up and you don't have a financial safety net. You'll simply end up right back where you started or worse.
While a rainy day fund with at least six months' after-tax income was once considered sufficient, the long periods of joblessness that people endured during the recession have led to a more conservative approach. Experts now recommend working your way to an emergency fund with a year's worth of take-home. You don't have to fund your account to capacity before addressing amounts owed, but building a base layer for a few months will certainly afford you some peace of mind. The best approach is to set up automatic monthly deposits into a savings account for whatever amount you have determined you can spend during the budgeting stage.
Resolution #3: Strategically Pay Down Debt - The most efficient debt reduction strategy is known as the snowball method. It entails contributing the lion's share of your monthly debt budget to whichever balance has the highest interest rate, while making minimum payments across all other balances. Once the first balance is out of the way, you can repeat the process until you're debt free and then double down on savings.
The right credit card can be very helpful to this process, believe it or not. If you have excellent credit you may be able to take advantage of an offer like Slate from Chase, which gives you a 0 percent introductory interest rate on debt transferred from another credit card for 15 months and charges neither an annual fee nor the industry-standard three percent balance transfer fee. Just make sure to use a credit card calculator to plan your monthly payments so as to be debt free by the time high regular rates take effect.
Resolution #4: Maximize Your Credit Standing - Having at least good credit is the key to personal finance success. Not only does your credit standing dictate the rate you'll pay on loans and what type of credit card you can get approved for, but it also impacts your insurance premiums, your ability to rent an apartment or lease a car, and even your chances of getting hired for certain jobs. In short, the difference between good and bad credit can easily prove to be thousands of dollars over the course of a year.
There aren't any shortcuts to excellent credit, but the process is not complicated. The objective is to maximize the amount of positive information in your credit reports. Credit cards lend themselves to that quite well, as the relay information to the major credit bureaus on a monthly basis and don't necessarily require you to make any sort of financial investment. You can find cards with no annual fee, and you'll build credit even if you don't make any purchases.
Ultimately, improved financial literacy is what we need most moving forward. Forty percent of Americans grade their knowledge of personal finance at a "C" level or below, according to the NFCC, and more than 70 percent of U.S. parents say their kids don't know the basics of money management -- the second highest figure globally, behind only Bosnia. Some measure of education policy reform may ultimately be necessary, but since spending habits are largely learned at home, getting your own financial house in order this year would make for a pretty good start toward a more prosperous future.