Falling into debt is disturbingly easy.
Off the top of my head I can easily name a half dozen people that I know and respect who have fallen into substantial debt due to a series of avoidable missteps. Myself included.
Many Americans are living paycheck to paycheck and something as routine as a chipped tooth, broken arm, or blown transmission could potentially lead to a debt spiral.
Handling finances can sometimes feel like trying to navigate a minefield. You could do everything to the best of your knowledge and ability, but just one slight misstep could potentially lead to disaster.
That’s precisely why I wanted to put together a resource to illuminate some of the most common ways people get trapped in debt.
Credit Cards
When used properly, credit cards are a fantastic tool to build your credit. If you pay your balance in full each month, putting your purchases on plastic can also be a great way to rack up rewards points.
The trouble obviously comes into play when spending gets out of hand and you can’t pay your balance off.
Managing your balance
I’m sure that you’re already painfully aware that ideally you should be paying off your balance in full every month so that you don’t have to pay any interest. But we both also know all too well that sometimes it’s just not that simple.
When my friend Renee moved out of her parents house and rented her first apartment she was really jazzed to furnish her new place. In the span of a weekend she bought a brand new refrigerator, couch, rug and flat-screen.
Renee is a close enough friend that I felt comfortable asking her how she could afford all this new gear. We had the same job at the time, and I knew that I could barely afford a snow cone.
Without missing a beat she boldly exclaimed “I put it on my card, but I’ll have it paid off in a few months!”. She sounded so confident and I didn’t even have a credit card at the time so who was I to question her further?
Spoiler alert: she didn’t have it paid off in a few months. Renee would end up paying over triple the original value of all the items she purchased over the course of 4 years.
What could she have done differently?
Renee had every intention of paying off her credit card in a “few months”, but the real issue was financing things she didn’t need. Renee could’ve opted to piece together some used items from yard sales, Craigslist, or OfferUp to furnish her apartment. She also could’ve held off on some of the items entirely.
When deciding when to use your credit card, you have to be real with yourself about whether you’re purchasing something you want or something you need.
Years later Reene is able to laugh while remembering the mess she got herself into. When I asked her what she wished she had known when she was signing up for that credit card all those years ago, she responded “I wish someone would’ve explained the concept of compound interest to me verbally instead of burying it in a cardholder agreement that I’d need a microscope to read.”
Compound interest
You’re probably familiar with the concept of “simple interest”, where you borrow an amount of money and then you’re charged interest on the principal balance. Compound interest is different.
Put simply, compound interest means that your credit card provider is charging you interest on interest. You’re not just paying back the original amount that you borrowed. Your lender is calculating a new balance daily to account for the interest your loan is accruing.
With this in mind, it’s easy to see how so many people lose control of their debt. As the interest continues to compound, you could find yourself struggling to pay off just the interest charges each month.
Emergencies
To be fair, there are some instances where putting an emergency expense on your credit card might be the only option. I have been there.
If you have an unavoidable expense that you have no choice but to put on your credit card, there is some hope. In a lot of cases, credit card companies will be willing to work with you in the case of an emergency.
This is dependent on the circumstances and lender, but some companies have been known to temporarily lower or completely suspend interest rates for several months.
Our guide to paying off debt with low income is a great resource for digging yourself out of a mess.
Auto Loans
In an ideal world you would be able to purchase a car with cash, but that’s completely unrealistic for most people. To be clear, auto loans aren’t inherently bad, but you should know about the different options and pitfalls before you sign up for one.
New isn't necessarily better
I’m sure by this point you’ve heard that a new car depreciates substantially immediately when you drive it off the lot– and continues to depreciate further with every mile you travel and every ding you put in the bumper.
Used cars come at a major discount, and can be just as reliable as a new vehicle.
In 2016, I purchased a certified pre-owned Kia Optima that only had 30,000 miles on it for $7,000 under the asking price of a brand new model. I owned the car for over 3 years before I had a problem with it, and that problem was covered under warranty! My monthly payments were low enough that I could afford to pay extra each month, and I ended up paying the car off a year early.
Negotiating the term of your loan
A typical car loan is for a duration of 5 years, but let’s say you’re at the dealership and the final price is just outside your budget.
A common tactic that salesmen use when a person is trying to buy a car out of their budget is to “help” by extending the time frame of the loan. So a 60 month loan gets extended to 72 or 84 months, and your monthly payment amount drops a considerable amount.
The purchaser is happy because now they have the perception that they can afford a vehicle that’s out of their budget, and the dealership is happy because not only did they sell a car, but they’ve also locked the purchaser into paying more interest.
If you need 84 months to pay off a car, it’s time to assess whether or not you truly need that particular car.
Breaking the monthly mindset
Another common auto sales tactic is to try and upsell you on unnecessary upgrades and add-ons by framing the conversation in terms of your monthly payment.
“You’ll want to make sure your vehicle is protected with our state of the art anti-theft alarm. For just an extra $18 per month you can rest assured that your car is safe! Isn’t peace of mind worth $18 to you?”
In the grand scheme of things $18 a month sounds pretty reasonable, right? That’s just barely more expensive than a Netflix subscription. But if you take a closer look, $18 a month will come out to $1,080 over the course of a 60 month loan.
You can expect an aftermarket car alarm to cost anywhere from $200 - $500 for materials and labor, which would mean you’d be paying over double the actual value of the alarm if you took the salesman’s offer at face value.
It’s important that you don’t look at decisions in terms of the monthly breakdown. Look at the total price of the item.
If you still have questions about how to get the best deal on a car, our friends at Think Save Retire put together this insider’s guide to car buying.
Medical Expenses
One of the quickest ways to fall into debt is medical expenses. Since our medical professionals very literally hold our lives in their hands, it’s natural that we want to trust them implicitly.
A lot of people have anxiety about going to the doctor in the first place and if you’re having health struggles, monetary worries might be a distant afterthought.
Let me be clear when I say that I’m not suggesting that you should forego necessary medical procedures to save a few bucks. I am however saying that you should perform thorough due diligence on any recommended procedure to ensure that you don’t receive a surprise bill for thousands of dollars.
Out-of-network surprises
Before you make an appointment with a doctor, you’ll need to check your insurance policy to make sure that practitioner is within your insurance company’s pre approved network.
If you visit a provider that’s out of network, your insurance company could potentially deny your entire claim.
Policy restrictions
Let’s say you tweaked your knee and are having pain when you walk. You make an appointment with an orthopedist that’s in your network to get your knee checked out and she performs a series of x-rays.
She determines that surgery isn’t necessary, but she prescribes physical therapy twice a week for 8 weeks.
You’re so excited that you don’t need surgery, that you make your physical therapy appointment right away and carry through with all 16 sessions until your knee feels better and everything's right with the world again.
Until you get a bill in the mail out of the clear blue from the physical therapist’s office for $3,900.
You call the office and they inform you that your insurance company denied your claim for some of your sessions and you’ll need to pay the rest out of pocket. So you call your insurance company outraged and tell them that you had a prescription for 16 sessions!
But as it turns out, your policy only covers you for 3 physical therapy sessions regardless of what a doctor prescribed.
The reality of the situation is that when it comes to medical expenses, you are your only line of defense.
Your doctor’s office doesn’t know the details of your policy, and your insurance provider isn’t going to go out of their way to prevent you from missteps either. You’ll need to study your policy, and then call your insurance provider to confirm what is or isn’t covered for each procedure. If you can get it in writing or via email, that’s even better.
Before having a procedure, ask your doctor for the specific billing code(s) used for that treatment so that you can clear it ahead of time with your insurance provider.
Billing codes
When you receive treatment from a medical provider they make notes in your medical record and then a professional medical coder analyzes the documentation and assigns billing codes based on the treatment you received.
You might be surprised how often things get lost in translation when it comes to medical billing. A coder might not entirely understand a provider’s notes and charge you for a procedure you didn’t have. They may also mistakenly apply a wrong code to a procedure which could potentially lead to your claim being denied by your insurance provider.
If you’ve received an unexpected bill, you should look up the billing codes of each line item yourself and make sure that the information is correct. Call your medical provider and insurance company with any discrepancies.
Dental procedures
I should be careful how I word this since I have a cleaning appointment coming up...but some dentist’s business practices are reflective of the car sales tactics I mentioned above.
When I was in my mid twenties, I didn’t have dental insurance and hadn’t seen a dentist in quite some time. I didn’t have any pain in my mouth, but I found a groupon for an exam and cleaning for $100 so I thought I’d give it a shot.
After taking an X-ray, the dentist had a series of concerns and painted a scary picture that could only be solved by a series of treatments I had never even heard of. I stumbled into the waiting room disoriented with the taste of blood still in my mouth when I was presented with a “treatment plan” with a price tag of over $4,000.
What I didn’t realize until I told them that there was absolutely no way I could afford all this is that every line item on that treatment plan was negotiable. Since I didn’t have insurance, they offered a “cash price”– which is an often unadvertised discount for people who are uninsured.
It turned out that I would need a root canal and a crown, but they declined to tell me that there were different (less expensive) materials they could use for the crown. Naturally they defaulted to the most expensive material.
Additionally it turned out that the procedures they were recommending were nice to have, but not medically necessary.
The bottom line is that for as much as we would love to trust our medical providers– medicine is a business and you need to treat your interactions with medical professionals as such.
Being your own advocate
Looking out for your own best interest can be uncomfortable.
Since most people tend to just go with the flow and accept things at face value, you might get some strange looks, eye rolls, or sighs when you ask pertinent questions. You may be met with faux outrage, or seemingly hurt feelings.
You may even be referred to as a “Karen”. Don’t be shaken by this.
It’s up to you to be your own advocate and after having read this guide, I hope you have the ammo you need to stand up for yourself and stay out of common debt traps.
