How to enjoy a debt free retirement

Retirement should be a dream, but for retirees who carry a debt burden, it can be a nightmare. Luckily, there is a way to pay down debt to and enjoy a debt-free retirement, even if you’ve already stopped working.

How to create a debt free retirement

Assess your debt situation

Take an inventory of your debt

The first step to paying off debt in retirement is to know exactly how much debt you have. This task might seem stressful at first, but it’s also empowering because you’re taking control of your finances.

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To complete this task, sit down and list all of your debts.  You can do this on a spreadsheet or on a piece of paper. If you're not sure what your debts are, you can go to AnnualCreditReport.com, a reputable website that gives consumers free copies of their credit reports from each of the three main credit bureaus.

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Your credit report will contain a list of your debts,  the lender's name, and the lender's contact information. If you have any adverse accounts, which are accounts in collections, write those down too.

Calculate your total debt, interest rates, and monthly payments

Once you have a list of your debts, add them together. List the interest rate and the minimum monthly payment next to each debt.

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Writing down the interest rate for each of your debts is helpful because it can help you plan and prioritize which debt to pay first.

Acknowledge the impact of debt on your retirement plan

When you add your debt together, it might feel overwhelming. The stress of using retirement to pay off debt might seem insurmountable. The good news is by listing your debts, you’re taking the brave first step to improving your finances and enjoying your retirement years once and for all.

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When you add up minimum payments and see how much of your income goes towards them, you’ll start to see the benefit of paying off debt. Imagine how much money you can allocate to things you truly enjoy once your debt is gone. 

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If you’re motivated and want to be debt-free, the next step is to create a budget.

Create a comprehensive budget

List your retirement income sources

A budget is made up of your income and your expenses. So, the first step is to create a list of your income streams. This includes your retirement account income, pensions, social security, additional investments, and even support from your children, if applicable.

List your retirement expenses

After listing your income, write down your expenses. Include all of your bills and regular expenses on this list. This should include your mortgage payment if you have one or your rent payment, your health insurance costs, other medical costs, utilities, food, discretionary spending, and more.

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Put hobbies or shopping on the list too. Again, retirement is about enjoying your time. It’s a good idea to think of your budget as a plan for your spending, more than something to restrict you.

Allocate money to debt repayment

When you look at your expenses compared to your income, and you have space, decide how to allocate your extra money to debt payment. 

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If you don’t have extra funds to put towards debt repayment, then it’s a good time to review your spending on nonessential items. It might be necessary to cut back temporarily in order to create space to pay off your debt systematically.

Choose a debt repayment strategy

Build an emergency fund

Before you start debt repayment, it’s important to save an emergency fund first. You can start with a small one of two to five thousand dollars, which can help handle a slew of unexpected expenses.

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This is the savings account you’ll draw from if you have a car emergency or a medical emergency. The purpose of this fund is to prevent you from falling further into debt while you’re aggressively paying it off. 

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Once you’ve established an emergency fund, you can then move to the next step, which is to choose a debt repayment strategy. 

Explore debt payoff methods

There are a few different debt payoff strategies to consider. There is the snowball method, where you pay off debts from smallest to largest, and the avalanche method, where you pay off debt from highest interest rate to lowest interest rate.

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The snowball method can build momentum and keep you motivated to achieve your goals. On the other hand, high-interest debt can compound quickly. By focusing on paying off high-interest debt first, you can improve your cash flow during retirement faster.

Accelerate debt repayment

Once you’ve decided on a debt repayment strategy, there are a few things you can do to accelerate your debt repayment.

Negotiate with creditors

If you have high-interest debt or debt in collections, you can call each creditor and negotiate with them. Offer to settle with collections departments. You can also ask credit card companies to lower your interest rates for a specific period of time.

Refinance or consolidate debt

Refinancing or consolidating debt can streamline repayment and lower overall costs. Debt consolidation involves combining multiple debts into a single loan, often with a lower interest rate. Refinancing replaces an existing loan with a new one at better terms, such as a reduced interest rate or extended repayment period.

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You'll generally need a good credit score and sufficient income to qualify. The most commonly used products are debt consolidation loans and balance transfer credit cards.

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Be sure to compare lenders, shop around, and consider any fees to ensure the benefits outweigh the costs.

Tap into home equity

If you're a homeowner, you may have a powerful tool at your disposal—your home equity. Most home equity products offer more competitive interest rates and longer repayment periods, reducing your overall monthly costs.

• Home equity loans offer single lump sum payouts in exchange for fixed monthly payments over a 5 to 30-year term.
• Home equity lines of credit (HELOCs) give borrowers a revolving line of credit to draw funds as needed. The borrowers make monthly payments once the draw period ends, which may fluctuate due to their variable rate.  
• Home equity investments (HEIs) provide a lump sum in exchange for a share of your home's future appreciation. There are no monthly payments over a flexible 30-year term. Rather, the HEI gets repaid when the homeowner decides to sell, refinance the home, or use another source of funds.
• Refinancing replaces your existing mortgage with a new, larger loan and lets you pocket the difference. The new mortgage comes with its own terms and rates, so it only makes sense to refinance if you can secure a better loan.

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It's essential to approach these options cautiously, as they involve putting your home at risk. Ensure you have a clear repayment plan to avoid foreclosure.

Leverage retirement accounts

While tapping into retirement accounts should be a last resort, it can be a viable option for managing significant debt.

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401(k) loans allow you to borrow a lump sum in exchange for fixed monthly payments over a 5-year term. Although you won't be subject to an early withdrawal penalty, you'll still pay income tax on the amount withdrawn.

However, using your retirement savings to pay off debt can jeopardize long-term financial security. It's worth connecting with financial advisors to evaluate the impact on your retirement goals.

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Committing to long term financial health

Once you’ve created a plan for paying off debt after retirement, it’s important to commit to long term financial health.

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Implement strategies to avoid getting into debt again. Create a monthly budget, pay off credit cards in full each month, and monitor your spending.

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Ultimately, retirement should be a fun and enjoyable time, not one filled with money stress. By taking the time to develop a debt payoff strategy, you can find a way to tackle your debt head-on and develop the discipline to never go back into it again.