There is much debate on this issue in the financial world. Some experts say to pay off the smaller balances first to get instant gratification. Others say it’s better to pay off the high interest rate ones first regardless of the balances. The first method (smaller balances) is called the “Debt Snowball Method”. The second method is called the “Highest Interest Method” and both have benefits.
We’ll go into detail and discuss each method in length to help you decide which method is right for you. Are you the type of person who needs to see instant results to know something is happening? If so, then you might prefer the snowball method. If you are more interested in saving money in the long run and are not worried about seeing a result right away, then the highest interest method is for you.
Debt Snowball Method:
Using the debt snowball method, you would focus on paying off the smallest debt first while just making minimum payments on the rest. Start by listing all of your credit card debts in order from the smallest balance to the largest balance. Next, total up the minimum payments you are making on all of your cards to see how much you are paying each month. Continue paying the minimum on all of your cards except the card with the lowest balance. If possible, try to add more money to that monthly payment. Paying more than the minimum will help you pay off the balance faster. For example, if your smallest debt is $100 with a $10 minimum payment, by increasing your monthly payment to $20, you will pay off the balance in about 6 months versus 10 months.
Once you have eliminated the balance on your lowest card, the debt repayment snowball effect begins. Apply that $20 you were paying on your lowest card to the next lowest balance in line. If you were paying $30 a month minimum payment, you will now be paying $50 a month. Once that balance is eventually paid off, apply that $50 you were paying per month to your next lowest balance, and so on and so forth.
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Debt Avalanche Method:
Using the highest interest method, you would focus on paying off the highest interest debt first while just making minimum payments on the rest. First, list your credit card debits in order from highest interest rate to the lowest interest rate, disregarding the balances. Continue paying the minimum on all of your cards except the card with the highest interest rate. You need to add more money to that monthly payment to pay it down quickly. Any extra money should go directly to that debt first. Paying more than the minimum will help you pay off the balance faster and it will save you money in the end because of the high interest rates. Continue this method using the next highest interest rate and descending in that order.
It can be frustrating at first because it’s hard to see any improvement or “dent” when using this method. That doesn’t mean it’s not working, it really is, you just have to give it more time to see the results. The benefit to this method is the amount of money you can save when all is said and done because you paid the highest interest rates off first.
Which Method Wins?
The “highest interest” method usually means that you would pay less in overall interest by going that route. However, with that method, the “successes” don’t start happening for quite some time. With the “debt snowball” method, the successes occur more regularly throughout the process, meaning it’s better for keeping your encouragement up as you repay, even though you will pay more in the end because of the interest rates.
It’s really up to your personality when choosing one of these methods. If you think you will get frustrated and give up with not seeing instant results, then you might want to go with the “debt snowball” method. That is actually the more preferred method among people in debt.
Just remember that it’s always easier to get into debt than it is to get out of debt. Hang in there and have some faith. You can do this and we are always here to help. Give us a call if you have any questions or would like more information.