2989: How to Pay Off Your Debt: The Debt Snowball Vs. The Debt Avalanche by Kalen Bruce of Money Mini Blog

[00:00:00] [SPEAKER_00]: This is Optimal Finance Daily. How to Pay Off Your Debt. The Debt Snowball Vs. The Debt Avalanche by Kalen Bruce of MoneyMoneyBlog.com

[00:00:12] [SPEAKER_00]: If you want to be debt-free, you need a strategy. The average U.S. household has $54,000 in credit card debt. If you're in debt, you really need a plan.

[00:00:24] [SPEAKER_00]: The good news is that you have more than one option. There are several ways to get out of debt, but the two most used ways are called the Debt Snowball and the Debt Avalanche.

[00:00:36] [SPEAKER_00]: Let's look at the differences and see what works best for you.

[00:00:40] [SPEAKER_00]: Two Methods

[00:00:42] [SPEAKER_00]: I'm going to go over two methods for paying off debt. There is no right or wrong here. It depends on you and your situation.

[00:00:51] [SPEAKER_00]: I used the Debt Snowball to get out of debt, and it worked for me. That's what's important. It worked.

[00:00:59] [SPEAKER_00]: If you become debt-free, you win. It doesn't matter which method you used once you're debt-free.

[00:01:05] [SPEAKER_00]: The Debt Snowball and the Debt Avalanche are very similar. Here's how they work.

[00:01:10] [SPEAKER_00]: You pay the minimum on all of your payments except for one. Once that's paid off, you add that payment to the next debt.

[00:01:18] [SPEAKER_00]: Either way, it turns into a snowball or an avalanche, and your debt will melt away.

[00:01:25] [SPEAKER_00]: The difference is in the order that you'll pay off your debt. Let's look at these methods in detail.

[00:01:32] [SPEAKER_00]: Method number one, the Debt Snowball

[00:01:35] [SPEAKER_00]: The Debt Snowball, made popular by Dave Ramsey, is a method for paying off all of your debt by starting with the lowest outstanding balance.

[00:01:44] [SPEAKER_00]: You put as much money as you can towards your lowest balance while making the minimum payment to every other account.

[00:01:52] [SPEAKER_00]: Once your lowest outstanding balance is paid off, you put as much money as you can towards your second lowest outstanding balance.

[00:02:00] [SPEAKER_00]: You repeat this method until you're debt-free.

[00:02:03] [SPEAKER_00]: Example. Jim has four different debts to pay off. Two credit cards, a student loan, and a personal loan.

[00:02:11] [SPEAKER_00]: Here is the order that Jim would pay off his debt.

[00:02:15] [SPEAKER_00]: $12,000 credit card, 11% interest.

[00:02:19] [SPEAKER_00]: $15,000 credit card, 18% interest.

[00:02:24] [SPEAKER_00]: $19,000 personal loan, 6% interest.

[00:02:29] [SPEAKER_00]: $22,000 student loan, 8% interest.

[00:02:33] [SPEAKER_00]: Debt Snowball Benefits

[00:02:35] [SPEAKER_00]: The idea behind the debt snowball is to create a series of small wins and early success.

[00:02:43] [SPEAKER_00]: This is especially true if you have several different debts to pay with low balances.

[00:02:48] [SPEAKER_00]: It's generally pretty easy to pay off a few small balances.

[00:02:52] [SPEAKER_00]: Then you have all that extra money to start adding to your other debts.

[00:02:57] [SPEAKER_00]: Also, if you've tried to pay off your debt before and failed, you may want to consider the snowball,

[00:03:02] [SPEAKER_00]: because statistically, people are more likely to stick to it.

[00:03:07] [SPEAKER_00]: Debt Snowball Drawbacks

[00:03:09] [SPEAKER_00]: When you pay your smallest balance first, you don't pay attention to the interest rates.

[00:03:15] [SPEAKER_00]: Therefore, you will end up paying more interest and it will take you longer to get out of debt.

[00:03:20] [SPEAKER_00]: If you're all about the numbers and you don't need the emotional support of having small wins,

[00:03:26] [SPEAKER_00]: the debt avalanche may be better for you.

[00:03:29] [SPEAKER_00]: Method number two, the debt avalanche.

[00:03:33] [SPEAKER_00]: The debt avalanche is very similar to the debt snowball, except you pay off your debt in order of interest rate.

[00:03:39] [SPEAKER_00]: You put as much money as you can towards your highest interest rate debt while making the minimum payment on every other account.

[00:03:47] [SPEAKER_00]: Once your highest interest rate debt is paid off, you put as much money as you can towards your second highest interest rate.

[00:03:54] [SPEAKER_00]: Then you would repeat this method until you're debt free.

[00:03:58] [SPEAKER_00]: Example

[00:03:59] [SPEAKER_00]: Remember Jim?

[00:04:01] [SPEAKER_00]: Let's use the same debts and order them for the debt avalanche.

[00:04:05] [SPEAKER_00]: Two credit cards, a student loan, and a personal loan.

[00:04:09] [SPEAKER_00]: Here is the order that Jim would pay off his debt.

[00:04:12] [SPEAKER_00]: $15,000 credit card, 18% interest.

[00:04:17] [SPEAKER_00]: $12,000 credit card, 11% interest.

[00:04:21] [SPEAKER_00]: $22,000 student loan, 8% interest.

[00:04:25] [SPEAKER_00]: And $19,000 personal loan at 6% interest.

[00:04:31] [SPEAKER_00]: Debt avalanche benefits.

[00:04:33] [SPEAKER_00]: With the debt avalanche, you will pay less money in interest.

[00:04:37] [SPEAKER_00]: If you're only concerned with paying as little as possible to the banks and loan companies, go with the debt avalanche.

[00:04:44] [SPEAKER_00]: You'll also be out of debt quicker with this method, since you're attacking those high interest rates first.

[00:04:50] [SPEAKER_00]: Debt avalanche drawbacks.

[00:04:53] [SPEAKER_00]: You may not get the small motivational wins in the beginning.

[00:04:57] [SPEAKER_00]: If your highest interest debt is one of your largest, it may be a while before you really start to see progress.

[00:05:04] [SPEAKER_00]: What's best for you?

[00:05:06] [SPEAKER_00]: It really comes down to your situation.

[00:05:09] [SPEAKER_00]: It all comes down to you.

[00:05:11] [SPEAKER_00]: The debt snowball works great for someone with a large amount of small outstanding balances, because you'll be quickly freeing up money to put towards other debt.

[00:05:21] [SPEAKER_00]: The debt avalanche works great for someone with a large amount of very high interest credit card debt that needs to be paid off quickly.

[00:05:28] [SPEAKER_00]: It also depends on your personality.

[00:05:31] [SPEAKER_00]: If you know you need a lot of motivation, consider the snowball.

[00:05:35] [SPEAKER_00]: If you're all about the numbers, consider the avalanche.

[00:05:39] [SPEAKER_00]: Don't forget that money can be a very emotional thing.

[00:05:43] [SPEAKER_00]: Too often, people argue their side with pure math.

[00:05:47] [SPEAKER_00]: That's not how money works.

[00:05:49] [SPEAKER_00]: At least, not with personal finances.

[00:05:51] [SPEAKER_00]: Sometimes the right method may not make the most sense on paper, but if it works, you still win.

[00:06:02] [SPEAKER_00]: You just listened to the post titled,

[00:06:04] [SPEAKER_00]: How to Pay Off Your Debt, The Debt Snowball vs. The Debt Avalanche, by Kaylin Bruce of MoneyMoneyBlog.com.

[00:06:12] [SPEAKER_00]: As a perfectionist at heart, I wanted to pay off my 30 grand of debt in my late 20s in the most optimal way.

[00:06:19] [SPEAKER_00]: So I went with tackling the highest interest rate first, otherwise known as the debt avalanche method.

[00:06:26] [SPEAKER_00]: I think I solved for the emotional benefit you get with the snowball method,

[00:06:30] [SPEAKER_00]: which is tackling the debt with the lowest balance first, because I used a debt reduction calculator.

[00:06:36] [SPEAKER_00]: It helped me visualize the finish line, which kept me motivated.

[00:06:41] [SPEAKER_00]: But I completely agree with the advantages of the debt snowball.

[00:06:44] [SPEAKER_00]: The amount of time you may be saving with the avalanche method probably isn't worth agonizing over.

[00:06:52] [SPEAKER_00]: Personal finance is less about the math and more about behavior, habits, and mindset.

[00:06:57] [SPEAKER_00]: The order of paying off my debts wasn't what changed my life.

[00:07:02] [SPEAKER_00]: Rather, it was the mindset shift to dramatically lower my spending

[00:07:07] [SPEAKER_00]: and aggressively pay down debt so I can invest that has put me on the path to financial independence.

[00:07:13] [SPEAKER_00]: If I was still swiping my credit card with abandon, it wouldn't matter how cleverly I sorted my debts.

[00:07:21] [SPEAKER_00]: That being said, if you're an overanalyzer, remember to give the spreadsheet a break sometimes

[00:07:27] [SPEAKER_00]: and focus on the personal part of personal finance.

[00:07:31] [SPEAKER_00]: Use whichever method that will get you the results you're looking for.

[00:07:35] [SPEAKER_00]: And I highly recommend using a debt reduction calculator when you're evaluating your options.

[00:07:42] [SPEAKER_00]: But that should do it for today.

[00:07:44] [SPEAKER_00]: Have a happy rest of your day, and I'll see you tomorrow where your optimal life awaits.