Living with principles: Jai and Peggy Hill are using debt-free living and the pursuit of education as their keys to financial freedom. (Family Finances).

FIVE YEARS AGO, JAI AND PEGGY HILL, OF MONTGOMERY, Alabama, embarked on a journey to reduce their debt. A financial advisor told them that in order to pay off their debt faster, they should pay more than the minimum due on their monthly bills. This way, more of the payment would go toward the principal balance and not just toward the interest. The Hills tackled their smallest balances first. As each debt was paid off, they turned their financial attention toward the next creditor.

"As we paid down our debts, we were coming up with an extra $2,000 to $3,000 every month," says Jai, an assistant principal al Greenville High School. Too often people make the mistake of paying off a creditor only to contribute more to their "discretionary income" spending--in other words, running out to buy the latest gadget of a new pair of Manolo Blahnik shoes!

The Hills, however, struck to their game plan and managed to eliminate $40,000 in arrears, including two car notes and about seven credit card balances. "Now we are just down to the mortgage ($94,000) and my wife's student loans ($12,500)," says Jai, a second-year doctorate student. The Hills, married for six years, know that using credit wisely is a key part of principle No. 5 of the BLACK ENTERPRISE. Declaration of Financial Empowerment (DOFE): to engage in sound budget, credit, and tax management practices.

Unlike many couples who go into marriage ill prepared to manage their household income the Hills were blessed to have received marriage counseling through their church. "We each know every [dollar] coming in and going out of the house," says Peggy, a Social Security claims representative. The Hills' goal is to become totally debt-free.

THE ADVICE

Jai, 30, and Peggy, 28, are great savers and conservative spenders, which bodes well for the young couple says Cheryl Creuzot, president and CEO of Houston-based Wealth Development Strategies L.P. However, Jai is a little too debt-averse, Creuzot explains. There is both bad debt and good debt. Huge credit card balances carrying high interest rates are an example of the former, whereas a mortgage on property that you own applies to the latter, she says. Instead of accelerating his low-interest mortgage payments, Jai needs to focus on beefing up the family's cash reserve. Once you subtract their annual household expenses from their household income, the Hills have a $21,161 surplus. BE had the Hills work with Creuzot to formulate a financial plan that fits their circumstances. She offers the following advice:

* STOP ACCELERATED MORTGAGE PAYMENTS

Even if the Hills were to refinance their mortgage at a lower rate (6% vs. 7%), they get to write off the interest paid on their home on their Lax returns. The after-tax interest rate would actually be 4%. Instead of paying mine toward a debt that is only costing about 4%, the Hills should take the money they would have used to increase their mortgage payments and invest it into a vehicle that has more growth potential and possibly greater tax benefits.

* BUILD AN EMERGENCY FUND

The Hills have about $2,200 in their cash reserve, which isn't even equal to one month of their living expenses, which total $3,700. The couple ought to have a minimum of $10,000 (or three months' worth of living expenses) stashed away. Creuzot suggests that they salt away $500 a month (or $6,000 annually) into a money market account. They can check Websites such as www.bankrate .com to find banks that pay the highest interest rate. Creuzot also recommends that they put their $2,000 contest winnings into their emergency fund.

* INCREASE RETIREMENT SAVINGS

Jai's teacher's state retirement plan automatically takes an annual $2,500 (or 5%) out of his pay. He also contributes to a 403(b), the 401(k) equivalent available to certain government and municipality employees, toward which he only defers $200 a month (or $2,400 a year). The maximum contribution allowed is $11,000 a year. Jai needs to defer an additional $8,600. Peggy is in a federal employees retirement plan, which automatically puts in 7% of her annual salary. She should continue to contribute 10% of her salary to a voluntary thrift savings plan.

* DIVERSIFY INVESTMENTS

The downturn in the stock market has disrupted Jai's long-term focus. The Hills have invested the majority of their assets in fixed-income vehicles and cash equivalents, which is not appropriate for a couple as young as they are, says Creuzot. They should have no more than 20% of their portfolio in fixed-income vehicles (bonds, CDs, money market accounts, etc.) to provide stability, and about 80% in equities--with half of that amount in growth funds and the other in value funds. The Hills aren't looking to invest a lump sum into the market. They are investing the same amount of money monthly through dollar-cost-averaging, which allows them to buy more shares when prices are down.

* START A COLLEGE FUND

Using the University of Alabama as a benchmark, tuition and room and board are currently $9,098 per year. With college costs increasing at an average rate of 7% a year, and assuming that the Hills' 2-year-old son, Adrian, will go to the four-year college in another 16 years, the Hills need to save roughly $250 a month. Creuzot suggests they check out www .savingforcollege.com, which will give them a detailed review of different kinds of 529 college savings plans. She further suggests they look for an age-based plan, whereby the money is invested predominantly in equities starting out, but as the child gets closer to college age, the money is automatically moved into more conservative fixed-income vehicles.

* INSURE THE FUTURE

Creuzot also recommends that the Hills draw up wills and carve out an estimated $1,000 a year to get an additional $500,000 in term life insurance.

Financial Snapshot:
Jai & Peggy Hill

HOUSEHOLD INCOME

Gross Income                    $112,000

ASSETS

Residence (market value)        $115,000
Other (household furnishings,     33,960
      jewelry, cars)
Peggy's Thrift Savings plan       24,282
TRS (Jai's retirement plan)       10,407
Roth IRA (Jai)                     4,376
Roth IRA (Peggy)                   4,376
Cash Reserve                       2,200
Jai's 403(b)                       2,133
Total                           $196,734

LIABILITIES

Mortgage                         $94,000
Student Loans                     12,500
Total                           $106,500

Net Worth                        $90,234