Help – I overused my credit cards for Christmas presents!

Help – I overused my credit cards for Christmas presents!
Eileen St. Pierre, The Everyday Financial Planner

On January 1, all the commercials started for products designed to help us with our New Year’s resolutions: weight loss programs, nicotine gum, gym equipment, dating services, and credit monitoring products. If you overspent on Christmas presents, you do not need to shell out any more money to help you get back on track. You just need to attack the problem with the same determination you had when shopping for the best online deal on your kid’s video game.

Write down everything you owe on one sheet of paper.

This may sound like a no-brainer, but you would be surprised how many people don’t fully realize how much they have spent. List each credit card with its balance, credit limit, minimum monthly payment, and interest rate. Then write down all the money you have left over each month to devote to paying off your credit card bills. Be honest here – if you don’t have much left over you need to find ways to cut your expenses. Check out my posts Ten ways to save at least $10 a week and Which Bill Should I Pay First? if you need help.

Here are two strategies to employ to help you tackle your credit card balances:

Strategy 1: The Snowball Effect

This is referred to as an accelerated debt payoff strategy. My post The Snowball Effect on Debt provides a simple example on how to use this strategy to pay down debts. It starts by paying off the lowest balance credit card first. Then add the money freed up after that debt is paid off to your next credit card. Keep repeating until all your credit cards are paid off. The key to this strategy is setting aside a fixed amount of money in your monthly budget to devote to paying off your debts.

Like most financial advisors, I highly recommend this strategy. But for some of my clients, this strategy has not worked. They tend to focus way too much on their credit scores, cannot devote a fixed amount to paying off their debts, and have too many credit cards. Here is an alternative strategy.

Strategy 2: Focus on Your Credit Utilization Ratio

For each credit card, divide your balance by your credit limit. The result is your utilization ratio, which comprises about 30% of your credit score. Identify all credit cards that have a utilization ratio greater than 30%. Pay enough on these credit cards to get the utilization ratio below 30%. Just pay the minimum on the other credit cards.  Repeat each month, focusing on continuously lowering your utilization ratio.

  • This strategy may take longer than the Snowball Effect so if you have additional money to put towards your credit card balances, please do so.
  • Stop using all credit cards; otherwise you will never pay them off.
  • Keep making all your payments on time. Remember, your payment history has an even larger impact on your credit score than your utilization ratio.

I know a lot of people intend to employ another strategy to pay off their credit cards – use their tax refund check. The problem with this approach is that it does little to curb the behavior that got you into this mess in the first place. Instead, open up a savings account with your tax refund check for next Christmas!