5 Bad Ways to Pay Off Debt (and what to do instead)

Paying off debt is a great goal, whether you have credit card balances, student loans, or another type of debt. Once you’re finished, you don’t need to pay expensive interest charges anymore or find money in your budget for debt payments.

Any effort to reduce your debt is commendable. That includes doing it yourself or with a debt relief program if you need a helping hand. But there are bad ways to pay off debt that could actually make your debt situation worse. Here are a few tactics to avoid and what to do instead.

1. Taking a Payday Loan

At first, a payday loan might sound like a convenient way to tide you over until your next paycheck. The problem is that payday loans are predatory lending with sky-high interest rates. Lenders typically charge $10 to $30 for every $100 you borrow, according to the Federal Trade Commission (FTC), and the usual term is just two weeks. You could end up paying what amounts to an annual interest rate of 400% or more. Payday loan rates have been known to surpass 1,000%.

Most borrowers also aren’t able to pay off their loans in full when they get paid. Then, the only solution is to roll over the payday loan, where you pay off the interest and borrow again at the same excessive interest rate.

What to do instead

Consider a professional debt relief service if you’re unable to make payments on your debt. A payday loan, in all likelihood, would only make the situation worse.

You May Like These

What are Credit Card Debt Relief Programs?

Statute of Limitations on Credit Card Debt

How to Not Stress about Money: 4 Key Tips

2. Making an Early Withdrawal From Retirement Funds

Retirement savings, such as a 401(k) plan, are practically a must-have. Social Security benefits replace about 40% of pre-retirement income, on average. You’ll be more comfortable financially if you can supplement that with your own savings.

You may be tempted to pull from your retirement savings to pay off debt. But there are consequences to withdrawing money before you reach retirement age. With retirement accounts, you generally pay hefty taxes and an early withdrawal penalty if you take out money before age 59 1/2. You’d be forfeiting a large amount of your savings, which is why early withdrawals from a retirement account are near the top of the list of bad ways to pay off debt.

What to do instead

Try other options for repaying debt, including debt negotiation, debt consolidation, or credit counseling, so you don’t need to touch your retirement accounts.

3. Skipping Tax Payments

It’s never a good idea to run afoul of the IRS or state tax authorities. When you don’t pay your taxes, you could incur interest charges and penalties on the debt, have your wages garnished, or even face jail time in a worst-case scenario.

What to do instead

Talk to an accountant, tax attorney, or tax debt resolution firm. These professionals might be able to negotiate a lower payment or set up a payment plan for your taxes or your other debts. The IRS ultimately just wants you to pay your taxes and could work with you to find a suitable arrangement.

4. Extending Student Loan Repayment Timeframes

Student loan debt can be costly, because even if the interest rate is low, many borrowers have a large amount of debt. If you stretch student loan repayment too far, your debt will rack up more interest charges. You could still be making payments when you’re close to or even in retirement. You also can’t easily discharge student loan debt in bankruptcy like you could with credit card debt, personal loan debt, and other types of debt.

What to do instead

If you can't pay your student loan, contact the lender immediately to learn about your options. But be cautious of deferment programs that prolong the debt substantially.

5. Rolling Over an Auto Loan

If you want to buy a new or used car, but you haven’t paid off your current vehicle, auto dealers normally let you roll over an existing auto loan. You trade in your current car, and the dealer adds the balance from the old loan to the new one.

Because you’re borrowing even more money, while you still owe money on your last car, you could go deep into debt this way. You’ll also likely be upside down on your new car, meaning you owe more money than it’s worth.

What to do instead

Pay off your car loan before you consider getting a new vehicle. Even better, drive your current car for as long as possible and resist the temptation to upgrade. When you don’t have a car payment, you’ll have more money to use elsewhere in your budget.

Whatever type of debt you’re trying to pay off, think about ways to find money for those payments. Can you take on an extra job? Get a roommate? Cut down on eating out? Your future self will thank you for making sacrifices today, rather than choosing any number of bad ways to pay off debt that could hinder your future.

Consider All Your Options to Attack Your Debt

When you pay off debt the right way, you ensure that your financial situation gets better, not worse. You can certainly do this on your own, but debt can also be difficult to manage, and you may feel like you still need help even if you’ve tried some of the above steps.

If you’re struggling with debt or just worried about falling behind on payments, Freedom Debt Relief is here to help you understand your options, including our debt settlement program. Our Certified Debt Consultants can help you find a solution that will put you on the path to a better financial future. Find out if you qualify right now.