Debt Basics

• When you take on debt, you have to pay your lender interest on the money you borrow, which increases the cost of whatever you purchase today. For example, if you buy a computer for $1,000 today with a one-year loan that has a 5 percent interest rate, you will end up paying $1,050 for the computer due to interest. The higher the interest rate on debt, the more costly it is to carry. Credit cards tend to have very high interest rates, making them especially costly.
  
  

Debt and Wealth

• Being in debt is detrimental to creating wealth over time. Every debt you have essentially leaches money from your net worth in the form of interest that you could otherwise save or invest. If you have high interest debts, you will likely benefit more by paying off the debt as quickly as possible than by saving or investing your money in other opportunities. For example, credit cards often have interest rates of 10 percent or more, which is a higher rate than you could expect to achieve in any safe investment or savings account.
  
  

Credit Scores

• A credit score is a number that lenders use to determine how risky you are as a borrower. Consumers with high credit scores are considered less risky and are more likely to be approved for loans and more likely to be offered low interest rates. Missing payments and carrying very high levels of debt harms credit scores. Taking on small, manageable debts that you pay faithfully can help you build your credit score and pay less interest on debt in the future.
  
  

Getting out of Debt

• Once you have a high level of debt it can be difficult to become debt free. Carefully budgeting your money, avoiding unnecessary spending and committing extra money to paying off debt is a basic strategy to get out of debt. If you cannot make your debt payments, you may be able to negotiate with your creditors to reduce your interest rates or debt obligations. The U.S. Federal Trade Commission states that consumers can use credit counseling services to receive professional debt advice and get on a debt repayment track. Some consumers decide to file for bankruptcy to reduce debt. Bankruptcy can discharge certain debts, but it will result in a long-term negative impact on your credit score; the FTC states that bankruptcy is generally considered an option of last resort.