No matter which way you dice it, getting out of debt is tough. Unless you win the lottery, odds are you’ve got your work cut out for you (and let’s face it, most lottery winners land themselves back in debt anyway).
The two most popular debt elimination methods are the debt snowball and the debt avalanche. The question is, which one will get you the best results?
The debt snowball is designed to knock out small debts early so that you free up those monthly payments. To do this method, write your debts in order from smallest balance to largest balance. If you’re tempted to look at the interest rate, don’t; it serves no purpose in this debt reduction plan.
Once your debts are listed in order, you pay minimum payments on everything except for the smallest debt. The goal is to throw as much money as possible at the smallest debt until it’s gone. Once it’s paid off, take that minimum payment, add it to the next debt, and attack it with full force until it’s gone. Then, take that payment and… well, you get the picture.
Are you seeing the snowball visual here? As each debt is paid off, the payment on the next debt gets bigger and bigger. By the time you reach those large balance debts, you’ll have a hefty payment to make each month
The avalanche is similar to the snowball but focuses on another part of the debt. If you use this method, you’ll list your debts in order from highest interest rate to lowest interest rate. The idea is to get rid of those debts that are killing you with interest payments.
Much like the snowball, you’ll attack the debt at the top of your list until it’s gone and then carry your payment to the next debt. So if you have a $500 medical debt with 0% interest and a $3,000 car loan with 5% interest, you’d focus on paying the car first.
Which is Better?
This has been debated for a while. Should you focus on the interest rate or the small victories? Let’s use a case study to help us out.
Let’s say someone has debts that look like this:
Credit Card A
Interest rate: 6%
Minimum payment: $140
Credit Card B
Interest rate: 4%
Minimum payment: $50
Interest rate: 8%
Minimum payment: $500
Now, using these numbers, let’s look at a side by side comparison of the debt snowball and avalanche:
If they used the debt avalanche, they would pay $277 less and finish one month sooner. So it’s pretty obvious which method I recommend, right?
If you said the debt snowball, you're right.
Trust me, I know it’s crazy. I’m a math person! Seeing these numbers makes me want to scream avalanche! But there’s one thing this example doesn’t take into account; human nature.
If you’re like me, you jump from one idea to the other pretty quickly. If I don’t see results right away, I am likely to give up and move onto the next thing. That’s because most of us need quick and small victories to help us stay focused!
Notice that the first debt in the avalanche is $30,000. That’s going to take some time to pay off! With the snowball, the first debt is the $1,000 credit card. That should be gone within a couple of months and we're ready to move onto debt #2.
No matter what method you choose, the most important thing is eliminating debt from your life. When we make debt payments, we're paying for things from the past. Every debt payment is going toward a purchase you already made, a class you already took, or a car you already drove off the lot. The key to winning with money is to use your income to fund the present and the future, not the past.
Ready to stop paying for things in the past? I’m here to help. Email me at firstname.lastname@example.org for a free consultation!