Get organised
First of all, it’s important to organise the debts that you have - some will need paying sooner and some will be clearly more significant.
Begin with a list of your creditors and the amount that you owe them and start to put them in order of importance. For example, if you have secured payments (such as rent, auto loans, or a mortgage), prioritise paying those off before unsecured payments, (such as credit card payments or student loans).
Creditors generally can’t claim collateral like your house or car on unsecured payments, but it’s still fundamental that you know what you owe to avoid problems in the future.
Choosing which debts to pay off first
Once you know which of your debts are secured and which are unsecured, it's worth digging a little deeper into how to rank the rest, especially if you can't keep up with the minimum payments on everything you owe. If that's the case, seek debt management help immediately.
Look at the cost of each debt
Expense is another way of ranking your debts in order of urgency. If you've got spare cash, it's more cost-effective to put as much as possible towards your most expensive debts, as this frees up more money in the long run to pay off cheaper ones. If you can make overpayments on these expensive debts without penalty, it's worth doing so.
However, don't make large overpayments at the expense of missing repayments on your other debts. Make sure you can afford the minimum amount on everything before putting extra towards the biggest one. To work out which debts are the most expensive, you'll need to know the interest rate on each — check your statements or call your lender if you're not sure.
Does the size of the debt matter?
While it's tempting to want to reduce the size of your bigger debts, it's usually cheaper in the long run to clear smaller debts with high interest rates first, such as store cards. Doing this quickly frees you up to focus on larger debts with lower interest rates. Large debts such as student loans or mortgages don't necessarily need to be your first priority when you have spare cash, since they're designed to be paid off slowly over the long term.
Can you make your debts cheaper?
As well as ranking your debts, it's worth looking into whether you can reduce the cost of some of them. You could transfer high-interest debts, such as credit card, store card, or overdraft debt, onto a credit card with an interest-free or low-interest transfer deal. Reducing the interest you're paying frees up money to put towards the debt itself.
Get budgeting
Budgeting is extremely important, as you need to know exactly how much you can spend on your debts. This will help you set up a realistic and manageable payment plan with your creditors. It's essential to know your outgoings and incomings each month so you understand exactly how much you can afford to pay back. From there, speak to your creditors to help them understand your situation — you may be able to renegotiate your plan to a point you're both happy with.
You can also get free financial advice from services such as the Citizens Advice Bureau, and our website can help you compare deals on other financial matters, like insurance and mortgages, so you can get the most out of your outgoings.
Should you use your savings to pay off debts?
Breaking into savings to pay off debts is never very appealing — hefty savings are usually the result of years of hard work, and using them can feel like you have nothing to show for it. However, holding onto savings rather than using them for repayments can end up damaging your finances in the long run.
Is it worth using your savings?
It's very likely you're paying more interest on your debts than you're earning on your savings. If you don't use your savings to clear your debts, you'll probably end up paying more in interest overall, since the longer it takes to repay what you owe, the more interest accumulates. Using cash you already have stashed away, even if it means starting your savings from scratch, will usually save you money in the long term.
So, the short answer is yes — it's usually a good idea to clear your debts as soon as possible, to save the money that would otherwise go on interest.
Are there any exceptions?
There are some cases where using your savings isn't cost-effective. If you have money outstanding on an interest-free overdraft or a 0% balance transfer card, for example, these debts won't have a higher interest rate than you're earning on your savings, so clearing them isn't as urgent. Use your savings to clear your more expensive, high-interest debt first, and keep some back if your other debts are interest-free.
You should also check whether you'll be charged for clearing debts early — this is common with mortgages, so check your deal's terms and conditions before overpaying. If the penalty for clearing a debt early is higher than the interest you're earning on your savings, it's not worth doing.
Will you be left with nothing?
If paying off your debts would leave you with little or nothing in savings, think ahead about whether you'll need money imminently. If something urgent is likely in the near future, look into borrowing at a cheaper rate first — if you can find a cheaper alternative, you may be able to pay off your debts while keeping enough back for emergencies.
If that's not an option, it's worth keeping some savings back just in case, even if it costs you a little more in the long run.
Should you use your mortgage to pay other debts?
Incorporating other debts into your mortgage payments can look appealing, since it's a tempting way to free up spending money each month. However, using your mortgage to pay off other debts is a high-risk form of debt management, and you need to be sure the long-term consequences don't outweigh the short-term benefit.
Can you release equity to pay off debts?
Whether you should use your mortgage for debt consolidation depends entirely on your personal circumstances. First, consider whether you have enough equity in your property to borrow more against it — when you borrow against your mortgage, you're offering the value of your home as collateral. If your mortgage is close to or exceeds 80% of your home's value, this will be difficult, or at least very costly.
You'll also need to check your mortgage's terms and conditions. Additional borrowing may not be permitted, and if it is, there will likely be fees involved, which are usually added to the loan, increasing your debt further. If additional borrowing isn't permitted, you may need to remortgage instead, which comes with its own costs, such as early repayment charges on your current deal.
Perhaps most importantly, work out exactly how much this would cost you. Speak to your mortgage lender, as they can help you calculate how much you can borrow and at what cost, so you can decide whether it's worth it, and whether you can afford it.
What are the benefits?
There's really only one benefit, but it's a significant one: cheaper monthly payments. Since mortgages are typically paid off over decades, your monthly payments will inevitably be lower. Paying off £20,000 over 20 years, even with interest, is going to be much cheaper each month than paying it off within four years, giving you more disposable cash without having to scrimp to keep up with higher payments elsewhere.
What are the risks?
This is very much short-term gain for long-term pain. Critically, you're putting your home at risk — if you fail to keep up payments, you may face repossession. This is why mortgage rates are lower than unsecured loans: putting your house up as collateral gives the lender security. It's generally better to keep your borrowing unsecured, so your home isn't on the line if you can't repay it.
Despite the lower monthly payments, your overall costs will be higher and the debt will last much longer, as the interest you pay adds up over time. You'll also carry the added stress of knowing your house is at risk throughout the repayment period.
Using your mortgage to pay off debts should really only be a last resort. If you can afford to prioritise repaying unsecured loans instead, you'll save money in the long term, even if you're paying more each month in the short term.
Your options
There are many ways to organise your debts, and some will suit you better than others. The two most common options for dealing with debt are a Debt Management Plan (DMP) or an Individual Voluntary Arrangement (IVA).
Debt Management Plan (DMP)
A Debt Management Plan combines your current debts into a single monthly payment that fits your financial situation, so you don't have to juggle multiple debts separately. This option is only available for unsecured debts.
DMPs are generally used when you can only afford a small amount each month and/or you're having trouble with your debt but expect to be able to start repayments soon. A plan can be arranged directly between you and your creditors or, for a fee, through a licensed debt management company.
If you use a debt management company, you give them details of your financial situation and they get in touch with your creditors to agree a plan and calculate your monthly payments. Once finalised, you make one monthly payment to the company, which they share between your creditors. The overall cost usually includes a set-up fee, and some companies also charge a handling fee per payment.
Your agreement won't always stop a creditor asking for the loan back in full at a later date, or attempting to recover the debt even while you're making payments, so make sure you understand the agreement fully before signing. Creditors can also freeze interest and penalties on your debts, so reducing your monthly payment doesn't significantly increase the total you need to repay.
Individual Voluntary Arrangement (IVA)
An IVA involves an agreement with your creditors to pay some or all of your debts through regular payments to an insolvency practitioner (often an accountant or lawyer appointed to deal with situations where money can't be repaid in full). The insolvency practitioner then divides the money between your creditors.
Your insolvency practitioner will work out how long the arrangement lasts and how much you can afford to repay. As with a DMP, you'll need to disclose your full financial situation for them to do this.
For the IVA to be accepted, creditors holding 75% of your debts have to agree to it. If they do, it applies to all your other creditors regardless of whether they agreed, and stops creditors taking action against you to reclaim money.
There's a handling fee and a set-up fee for IVAs, and the agreement can be cancelled by your insolvency practitioner if you stop making payments, which can lead to bankruptcy. Your IVA is also added to the Individual Insolvency Register while it's active, and for three months after completion, so make sure you understand the costs and risks involved before agreeing.
You could also be refused credit while you have an IVA or a DMP, but both are worth considering as a first step when you're struggling with debt.