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The 5 Steps to Become Debt-Free

Do you want to know the truth about how to become debt-free? THAT TRUTH IS YOU. You are the reason you can become debt-free. While there are many tools and people to help you along the way, only you can put yourself in the best position to become debt-free.


The other truth is that you won’t become debt-free overnight. But you will become debt-free through research, planning, discipline, and patience.


In this guide, I provide five steps to becoming debt-free to help get you started on your journey. Resources will be placed within this article if you want more details or have questions regarding a specific topic.


You must understand these five steps to put yourself in a better position. With that said, let’s dive right in on how you can start becoming debt-free.


Step 1 – The Unwritten x4 Unsecured Debt Rule


A simple way to calculate if you have too much unsecured debt is if your total unsecured debt balances are at least four times more than your gross monthly income. For example, if your gross monthly income is $5,000/mo. Your total unsecured debt balances would equal $20,000 or more.


Unsecured debt is simply a debt without any collateral promised to the creditor. Due to this, unsecured debts typically have higher interest rates and shorter repayment terms, leading to higher monthly payments.


Working in the banking industry, we have followed this unwritten guideline when lending to ensure we are not financially putting customers in bad situations. It’s equally beneficial for individuals to track how much debt they owe to know when it is time to consolidate.


That is why it is critical to focus on paying off as much unsecured debt as quickly as possible. One approach to paying off unsecured debt would be to consolidate the debt.


Here are my seven best methods for consolidating unsecured debt.


Step 2 – Debt-To-Income (DTI) Ratio


How do I know if my income would qualify for a debt consolidation loan? Can financial institutions turn me away from having too much debt?


A financial institution can deny a consolidation loan if you have too much debt. Some financial institutions are stricter than others. While some may be less strict, they charge a higher interest rate due to being a higher-risk customer.


A solution to this will be to pay down your highest interest items first if you cannot consolidate. This will help reduce the amount of interest you end up paying.


Another guideline financial institutions follow to help you determine what you should consolidate first is the debt-to-income (DTI) ratio. If you read my seven best methods for consolidating unsecured debt, consolidating debt also reduces your DTI. That is because you are reducing the monthly payments you pay each month.


DTI is calculated by adding all your monthly liability payments (secured and unsecured liabilities) and dividing that by your gross monthly income. Most financial institutions require the DTI to be below 40-50%. Note: The monthly payment of the new consolidation loan is added to the liabilities in replacement of the liabilities that were consolidated to calculate the new DTI.


Wells Fargo provides a free calculator to help you get an idea of your DTI and step-by-step instructions on calculating it.


Below is an example of the before and after of how the DTI can drastically improve when consolidating. Let’s say your monthly income is $5,000/mo.



Monthly payment
Mortgage Loan
Personal Loan
Credit Card
Credit Card
Credit Card
Credit Card
Total Payments:
Current DTI:
$2,500/$5,000 = 50%


Item Monthly payment
Mortgage Loan $1,200
Auto $400
Auto $300
New Consolidation Loan $300
Total: $2,200
New DTI: $2,200/$5,000 = 44%


This is a small-scale example of how even a few hundred dollars per month drastically improve how much you save a month. I have approved consolidation loans for borrowers that have reduced monthly unsecured payments from $2,500/mo. To $2,200/mo. In one consolidation loan.


That extra $300 saved in this example should be used to pay down the consolidation loan even further and help pay off debt faster instead of spending on something else and racking up more debt.


By consolidating debt, you save money on the interest you would have had to pay. Instead of having five individual obligations accruing interest, only the consolidation loan will have interest accruing. has a simple, user-friendly payment calculator that will calculate how much interest you would pay for a specific loan, credit card, etc. This payment calculator tool is a mind-blowing free tool to help estimate how much interest you would save by consolidating debt.


A bonus is that you can also use this calculator to calculate your income. Look at it as a two-in-one place to numbers crunch.


Step 3 – Three Financial Planning Strategies


Is the only step to becoming debt-free through debt consolidation? Not even close. While debt consolidation is a phenomenal way, and my most recommended method, to get started on the journey to becoming debt-free, there is far more work to do.


Once you have reduced the number of monthly payments you have, the next focus should be on finding a financial plan that is suitable for you. A financial plan will help you manage your finances and stay on track with your financial goals as you work to become debt-free.


The key to becoming debt-free through a financial plan isn’t the plan itself. A financial plan is designed to help you stay on track to reach your financial goals. Success comes from remaining committed to the plan. If you stay committed, financial plans will get you out of debt.


It takes a lot of discipline to remain committed to a long-term financial plan. But the feeling will be gratifying once you become debt-free.


This also applies to companies that offer financial assistance programs. All of these will assist you with getting out of debt if you remain committed throughout the process.


Achieving financial freedom isn’t easy because if it were, everyone would be debt-free. This is evident here as debt continues to mount for millions of people.


There are plenty of reasons you are in debt, but note that anyone can achieve financial freedom and be debt-free if you work hard enough.


Here are three of my favorite budget planning systems you can try for free.


The 3-Bucket System of Financial Planning:


Are you unsure how much money you should spend towards paying debt versus other areas such as retirement, emergencies, etc.?


Unfortunately, it is impossible to put 100% of every paycheck towards debt. That is because there will always be other expenses in your life. Sometimes those expenses are not foreseen either if they are emergencies.


This is where financial planning comes into play. Not only to keep you on track with your financial goals but to help you prepare for other aspects of life to mitigate any setbacks and maintain financial freedom to get the most out of life.


Just picture yourself sitting on that beach drinking margaritas or going on that bucket list vacation. That can be you.


Adams Investment Strategies pieces together a short, detailed article breaking down precisely what the 3-bucket system is. Long story short, it is a system that helps you split your financial planning into three essential categories (unplanned expenses bucket, dream bucket, and retirement bucket).


This strategy is effective because it also sets you up for life financially after you become debt-free. Knowing how to utilize money starting now is a great way to start your debt-free journey.


The 50/30/20 Rule:


If you don’t like how the 3-bucket system is specifically divided, the 50/30/20 rule is another financial planning strategy to try. Instead of splitting your money equally between the three categories, you put 50% towards needs, 30% towards wants, and 20% towards savings.


Nerd Wallet provides a detailed breakdown of the 50/30/20. They also offer you a free calculator to get started. I recommend using this calculator because it will save you time from having to calculate manually. Saving time also means becoming debt-free sooner rather than later.


The Envelope system:


Another free financial planning strategy you can use is the classic envelope strategy to become debt-free. The envelope system is precisely what you think it is.


The classic cash-based system to track your spending. You can find more info here. There are two reasons I recommend this approach.


First, I saw this system utilized firsthand by a customer when I was a teller. Every first of the month, the customer would come in with an envelope and a notecard breaking down each week’s planned expenses.


The customer had his spending planned out down to the penny (literally). The first few times I assisted the customer, I didn’t quite understand why I always had to give him change instead of just dollar bills and rounding up the budget number.


I politely asked what the purpose was of the notecard and envelope. He told me that he and his wife have three kids, and this budgeting system allowed them to keep track of spending so they could both retire and help each of their kids with college.


Reflecting on it now, I greatly respect the lengths they were going to track spending, especially in a modern society where cards mainly operate and mobile apps. It’s easy to forget how quickly we spend money if we don’t keep track of spending.


Here are my seven best financial planning strategies for you.


Step 4 – Passive Income (Making Use of Free Time)


Why not use your free time to make money instead of spending money? You heard me. SPEND MONEY.


The Muse has a fantastic article discussing how we spend more money when tired or bored.


Have you heard the phrase out of sight, out of mind? It applies here as well. Instead of randomly scouring the internet late at night or randomly shopping for items you had no plans initially to purchase, go out and make money.


Sofi has a great list of ideas for making passive income. The most significant benefit to passive income is that you could use all 100% of it to pay off debt faster. That also means less interest owed.


Here are my seven best low-cost passive income business ideas. The focus here is on the lower costs of barriers to entry. Not everyone can afford to go out and buy a business or an investment property.


Life is short. Each day wasted could be an opportunity missed.


Bonus Step – Microtransactions


I want to throw a quick bonus step here that piggybacks off step 4. PLEASE STOP WITH THE MICROTRANSACTIONS.


What I am referring to here is digital video game spending. Video game companies make billions off microtransactions on mobile devices or a console.


Don’t believe me? Here is some proof. Here is another example of just one single company’s earnings from microtransactions.


The average person spends around one hundred dollars annually on microtransactions on one game. That might not seem like a lot, but if you are a parent that has kids or someone who has that competitive urge to gain any advantage possible, you could find yourself spending a lot more than you realize.


One of my best friend’s coworkers has spent over $4,000 on a video game called League of Legends. His addiction to loot boxes has triggered that urge to have the newest skins, champions, etc., as they release.


That’s $4,000 that could be used to pay the debt, invest, or even put towards retirement.


Step 5 – Worst Case Scenarios


The only reason this step is on my list is that it is an actual step to becoming debt-free, and there are situations where these options might be necessary. As the subtitle states, this is for only worst-case scenarios, and I don’t recommend starting with these options without exploring all the above options.


If you wish to take these approaches, I advise speaking with a financial or legal expert first to see if this is truly the best option and if you qualify for it.


Debt Settlement


Debt settlement is entirely different from debt management. Debt settlement is simply settling the debt you owe, typically for less than what you originally owed.


Credit Karma details debt settlement and how it may or may not be a fit for you.


You will see ads advertising how to become debt-free by stopping paying your bills. These third-party companies will intentionally tell you to stop making payments so the liability defaults.


At that point, the third-party company swoops in and negotiates a debt settlement with the lenders. Then you repay the third-party company instead at a high-interest rate.


Lenders may often take these deals because collecting some of the money owed from a defaulted liability is preferred over collecting nothing.




Finally, bankruptcy. I am not going to break down each bankruptcy option for you. Here is a Forbes article that breaks down all six bankruptcy types. There are situations where bankruptcy may be the best or only route.


Again, please speak to an expert before going this route. You may be surprised at how many different solutions a financial expert can offer before even considering bankruptcy to become debt-free.


Nick Miller

Website Founder

Nick Miller

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