When you have a lot of debt to pay off, it may make sense to go extreme — like avalanche extreme. The so-called debt avalanche repayment strategy focuses your efforts on paying off your high-interest debt first before wiping out the rest (sort of like an avalanche).
Some people choose a different, but still wintry approach to repay their debt — the debt snowball. This option involves listing your debts from the smallest to the largest and taking care of the smallest ones first. It’s called debt snowball because it’s similar to how a snowball is made. A snowball starts as a small ball and gradually gets bigger as you roll it in the snow, building success over time until you have a giant snowball or, in the case of debt, paid it all off.
Settling an entire bill completely can offer a big psychological boost for those who have racked up some debt, but it might not be the best option for everyone. Here’s what you should know about the debt avalanche.
Debt Avalanche -- Getting Started
- List all your debt from the highest to lowest interest rate.
- Pay the minimum monthly or required amount on all your debts. (So, you’d pay the minimum required for your credit card bill, but the monthly payment for your mortgage or car loan.)
- Then, use whatever money you have left over to pay the most you can afford each month on the debt with the highest interest rate until it’s paid off. Once you’ve cleared that debt, you’ll start paying off the debt with the second highest interest rate.
So, if you have $8,500 on a credit card with a 19% annual percentage rate; a $10,000 car loan at a 5.5% interest rate; and a $1,000 personal loan at 5%, you’d focus your efforts on paying off the credit card debt first, followed by the car loan and then the personal loan.
What are the benefits?
The higher the interest rate on your debt, the more you’ll ultimately pay on it. So, paying off the highest-interest debt could save you hundreds of dollars — maybe more — because you’re wiping out the debt that is the most expensive to carry.
What should you do?
Using the debt snowball approach, paying off your smallest bills first, you might rack up a few quick wins — that $500 department store credit card bill, for example, or the $300 you owe the doctor’s office. For those who are motivated by quick successes, the debt snowball method may be the best option. They’ll be more likely to stick with the plan when they can celebrate some initial wins along the way.
But for those who are focused more on the bottom line, particularly how much they’ll pay in interest, the debt avalanche strategy might be best. In this case, you’ll be targeting the debt that carries the highest interest rate. So, depending on the total, it might take more time to settle a single debt, but you’ll be saving more money once you do.
Of course, no debt repayment strategy should be launched without some basics in place. You’ll still need to be able to cover your day-to-day living expenses and at least the minimum on your other bills as you embark on your plan.
If you are experiencing financial difficulty and are looking for a solution, non-profit credit counseling also can help you make sense of all your options. Contact us today for a free financial assessment with one of our certified credit counselors.
