Which Debt Should I Pay First?
Let’s look at the two most popular and effective ways to reduce your debt: the snowball method and the avalanche method. The debt snowball method and debt avalanche method are both debt reduction strategies, but which one is better? After determining how much debt you have and what the interest rates are for each balance you owe, it’s time to decide what to pay off first.
What is the Debt Snowball method?
The debt snowball method is a popular non-mortgage debt reduction strategy endorsed by Dave Ramsey, an American radio host, author, and businessman, whereby one pays off their lowest balance debt first and then moves on to paying the second lowest balance and so on. Some people even refer to it as the “Dave Ramsey Snowball method.” It’s called the snowball method because you start out with the smallest debt first and progressively move on to bigger and bigger balances.
How does the snowball method work?
Make a list of all your debts (medical, credit, car, and student debt) from smallest to largest. You still pay the minimum on all your debts, but you put as much money as you can toward the debt with the lowest balance first. Once you pay off the lowest balance, you move on to the second lowest balance.
This gives you the momentum and motivation to pay off your debts faster than normal. With this method, it’s all about the psychology of seeing your debts disappear. It’s extremely rewarding to see one of your debts paid off in full. When the smallest debt is paid off, roll that payment over to the next smallest, and keep going until you are debt-free!
Digging yourself out of debt isn’t easy, but it’s a lot easier when you have a plan in place.
What is the Debt Avalanche method?
The debt avalanche method, also known as the debt stacking, debt ladder, or standard method, involves paying off the debt with the highest interest first. This is normally your credit card debt. If you have multiple credit cards, you will want to find out which one has the highest annual percentage rate (APR), found in your credit card statement.
How does the debt avalanche method work?
Make a list of all your debts, from the highest interest rate to the lowest interest rate. You pay the minimum on all your debts, but you put the most money toward the debt with the highest interest rate. Once you pay off the debt with the highest interest rate, you move on to the debt with the second highest interest rate and so on.
Mathematically, it makes the most sense to pay off the debt with the highest interest rate because it is costing you the most. If you stick with it, the debt avalanche method results in lower overall payments, but then again paying off the smallest debts can pump you up to tackle the larger ones.
Don’t spend too much time deciding on which debt reduction strategy to use. The key is to pick a plan and stick to it!