Financial Milestone Reached! My Bad Debt Ratio Is Under 15%
Posted on January 22, 2007 by Her and tagged debt
When I first added up all my debt in 2005, my Bad Debt Ratio was over 86%. Today it is 14.88%, slipping under the recommended maximum of 15% for the first time ever!
What is a Bad Debt Ratio?
This is the ratio of your total unsecured "bad debt" (excluding mortgage debt and student loan debt) to your individual (not household) annual take-home income. For example, if you have a $3,000 auto loan and carry a $5,000 balance on your credit cards, and take home $30,000 per year, then your Bad Debt Ratio is
($3,000+$5,000) / $30,000 = 26%.
The Bad Debt Ratio is similar to the Debt-to-Income Ratio. The difference is that the Debt-to-Income Ratio includes "good debt" such as student loans. For more on the difference between Good Debt and Bad Debt, click here.
What is the significance of 15%?
A Bad Debt Ratio above 15% can have a negative affect on your credit score. The recommended Bad Debt Ratio is under 15 % to help you qualify for the lowest interest rates possible when extending your credit to buy a home or car.
How did we accomplish this?
On our reader's advice, we used about $7,000 of our savings to pay off credit card debt this month. Ouch! We still have about $4,500 of credit card debt remaining, but that's all one one card with a lifetime 0% interest rate. We will pay that off this year...the end is in sight!
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The Poor Grad Student | Jan 22, 2007
If it's at 0% interest permanently, why pay it off at all? Why not invest the money or use it to pay off student loans?
maryanne | Jan 22, 2007
Congrats on your accomplishment. I'm trying to follow in your steps. I did the math and right now my bad debt ratio is 7%. (About $1500 on a credit card that will be paid off within the next six months or so.) If I add my student loans, however, my total debt ratio is 50% - ouch! (I had scholarships and worked three jobs but I still needed about $15,000 to make up the differece for college.) Now, I work in the artsy/do-gooder field so my income is just around $30,000 and its not going to increase dramatically anytime soon. Is this going to screw me forever? Am I going to have to follow my friends into corporate world, or what?
Millionaire Artist | Jan 22, 2007
Congratulations, Her! It's great to recognize those positive milestones. Good for you! (And, thanks, because I was unaware of this good debt/bad debt calculation.)
Adie | Jan 22, 2007
Congratulations!
Thanks for the tip - that is good information to know.
How did you get the permanent 0% interest?
Mandy | Jan 24, 2007
Is this the kind of 0% interest deal you have?
http://consumerist.com/consumer/discover/discover-0-apr-for-life-decoded-231090.php
Yes, this is the exact same deal I have. To minimize the pitfalls (namely, racking up huge interest charges on the new purchases or forgetting to make the required purchases) I put something small like a cup of coffee on the card twice a month and note it on our dry erase board. While we are accruing a small finance charge, it's only a few cents a month. We are on track to pay off this card in a few months, so the total interest accrued will be negligible.
Congratulations! That's a big change in bad debt. Over what time period did you two reduce it? Was it the one-time $7,000 that took you from 86% --> 15%?
In any case, it's good to see ya progress!
Albert | Jan 26, 2007
Be careful with that 0% for life card. I had one, and was walloped with normal high interest after six months or so because you have to make fresh purchases every so often.
I paid it off very quickly when I realized my balance what happened. Normally, I'm good about reading the fine print. :\
Good for you, Her! That's quite a dent you've made in your consumer debt in a very short time. You must feel awesome!!
Tim,
We started paying the debt down over 18 months ago using the snowball method. In the beginning we could only pay the minimums, and we've gotten it down to where we can easily pay $800 a month over the minimum. The recent $7,000 payment was the biggest dent we've made at one time.
Anne | Jan 22, 2007
Yes! You're going to make it ... Doesn't it feel g-r-e-a-t?
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