your financial details.
When you are in debt on multiple credit cards or from multiple sources, like a mix of student loans, credit cards, personal loans, etc. it can be difficult to decide where to start with paying off your debt. Of course, the first thing you should do is calculate and record the balances, minimum payments and interest rates on all of your debts. But after you do this, your numbers might seem overwhelming. Luckily, there are several debt payoff methods to choose from and each has its own set of pros and cons.
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The Avalanche Method
Paying off debt with the avalanche method is a great choice if your debts have lots varying interest rates. When you use the debt avalanche method, you basically ignore your debt balances and minimum payments and focus solely on their interest rates. You focus on paying off your highest interest debt first (while still meeting the minimum payments for all debt).
The avalanche method is usually touted as being the fastest and cheapest way to pay off debt because you’ll get rid of your highest interest rate debt first. This will indeed save you some money on interest, and also some time because you’re highest interest rate debt won’t continue racking up compound interest.
But if you are new to paying off debt with intensity, it might be intimidating to you to try and tackle a debt that may not have the lowest balance.
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The Snowball Method
The debt snowball method focuses only on the size of your debt balances. You’ll rank your debts in order from smallest balance to highest balance, ignoring their interest rates and minimum payments. Then you’ll pay them off in that order.
This method is a good one to choose if you feel that having small successes more frequently will keep you motivated to continue paying off debt. These psychological wins can help you avoid debt payoff fatigue if you have many debts to eliminate.
As you pay off your smallest debts, you wont’t see your disposable income rise. Instead, you’ll roll the payment you were making each month from the first one you payoff into the payment for your next debt. For example, if you were putting $100 each month toward a debt, once it is paid off you will earmark that $100 each month to more quickly paying off your next debt. This is when your snowball will begin to roll faster and gain momentum.
A Hybrid
Some people may choose to do a hybrid debt payoff method by combining the avalanche and snowball methods. For instance, I chose to pay off my smallest balance first, which would follow the snowball method. I also rolled my minimum payment toward my next debt, but instead of tackling my next smallest balance, I decided to move to a debt with a higher balance and my highest interest rate. This may not make sense to everyone, but in a hybrid situation you can use emotional and logical thinking to help you make a decision that fits with the best of both worlds.
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Bottom Line
In the end, there’s no right or wrong way to pay off debt. Everyone’s situation is different, so what works for one person may not work so well for someone else. What really matters is that you continue to make progress toward your goal of becoming debt free.
Which debt payoff method are you using? Why?
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Source: smartasset.com