At a Glance

Learning how to set a budget to pay off debt should be the first step in your journey to becoming financially secure. This doesn’t need to be a complicated process, but you will need to be thorough. Print our credit card and bank statements from the previous month and gather any receipts from cash purchases if you have them. You’ll also need your income numbers, so gather recent pay stubs as well and let’s get started.

How to Set Up a Budget

Begin by making a list of all your expenses. Include everything, from the essential expenses like rent and utilities to non-essential expenses like take-out food and cable TV. This is an exercise in which you’ll need to ask yourself some hard questions. Expenses that you consider standard may not be essential. Ask yourself, “Do I really need this?”

Once you have all the expenses on one page, separate them into categories. Most tutorials on this subject will tell you to use “essential” and “non-essential” as categories. We’re also going to add “savings” and “miscellaneous” to the list. You’ll understand why as you read more. If you wish to go on vacation during this process, also add a “travel” category at the bottom.

Related: Tips for Traveling While Paying Off Debt

You’ll notice that we have not mentioned your monthly debt payments yet. Those should be tallied on a separate page. Make a list of all your minimum monthly payments and add them up. Then add the total balances owed on all accounts. That total is a variable number since interest charges increase regularly, but it’s nice to know what it is for a starting point.

Cutting Down Your Expenses

Let’s go over the expense list first and find out where we can make some cuts. Non-essential expenses are exactly what they sound like: not necessary. The best way to budget and pay off debt is to eliminate them completely. Cooking at home is cheaper than take-out. Those premium cable channels aren’t adding value to your life.

In our plan, we’re going to advise you to pay off debt and save at the same time, so put a number into the “savings” category. It can be a small number for now, but make sure it’s something. You can increase it later. Treat the “travel” category the same way. Save the “miscellaneous” field for later. You’ll need your income number to do that one.

Subtracting Expenses from Your Income

If your expenses are less than your income and you’re making all your minimum monthly debt payments, you’re not drowning in debt like you may feel you are. There’s dry land in sight. You’ll just need to work hard to get there. Begin by subtracting your total monthly expenses from your monthly income. Don’t include debt payments just yet.

The amount of income you have left after expenses is what you have to work with. Subtract your minimum monthly debt payments from that. Take what’s left and allocate half of it to the “miscellaneous” category of your budget. You’ll use the other half to pay off debt. For those who think in numbers rather than words, the formula looks like this:

DP = [(MI – ME) – MD] ÷ 2

DP is for “debt payoff.” MI is for “monthly income.” ME is for “monthly expenses.” MD is for minimum “monthly debt” payments. Spend a few moments playing around with this and you’ll see how it works. There are other debt management systems, but we’ve found this one is the best when using a budget to pay off debt.

Debt Snowball versus Debt Avalanche

Two proven methods to pay off debt fast, even with a low income, are called debt snowball and debt avalanche. Both advocate that you make all your minimum monthly debt payments on time. You already have that covered. The debt snowball method suggests you make an extra payment on the account with the smallest balance. The debt avalanche suggests you start with the account with the highest interest rate.

Choose one of these methods and use the “debt payoff” money from your budget (DP) to make the extra payment. Include any debts in collections and student loan debt. They are both a part of the payoff plan. If you’re in danger of foreclosure, repossession, or default, move those bills to the top of the list, but otherwise, keep the order of the plan you’ve chosen.

This program is good for anyone. It covers your expenses, your savings, and your debts. If you want to go out and have fun, use the miscellaneous fund. All your bills will be paid on time. That’s how a budget works.

Frequently Asked Questions

How do you pay off debt on a tight budget?

Stick to the budget, even if it’s tight. What you have left after paying essential expenses might not be much, but it’s something. Be disciplined and chip away at your debt until it’s gone. If the budget is too tight, go through your expenses again and eliminate anything that is non-essential. That could mean living without cable TV for a while or implementing tighter controls on utilities (turn off lights, lower the heat, etc).

How do you pay off debt you can’t afford?

This is another scenario entirely. If you create a budget and there’s nothing leftover to pay off debt, you may need to call your creditors and ask for a debt settlement or better loan terms. Explain the situation and make whatever arrangement you can afford. If that approach fails, you could also try applying for a debt consolidation loan. Fixed loan payments are easier to budget than variable credit credit payments, and interest rates on loans are lower than interest rates on credit credit cards.