Best Way to Pay Off Debt

Making a decision to get out of debt, especially high-interest credit card debt, is one of the best decisions you can make. It’s an important step towards achieving financial freedom. It can also alleviate stress and make your life more fulfilling when you no longer have to carry a large debt burden on your shoulders!

There are many methods you can follow to pay off debt. The two most popular methods are debt avalanche and debt snowball. Unfortunately, they have some shortcomings and neither is the best way to pay off debt.

In keeping with the “snow” theme I’m going to introduce another method which I call the debt snowblower method. And I’ll show why I consider it to be the best way to pay off debt.

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Get Ready to Tackle Your Debt

Many people have tried and failed to pay off their debt. I believe the main reason is they were ill-prepared. In order to succeed, there are some prerequisites.

1. Stop Racking up More Debt

By racking up new debt while you’re trying to pay off old debt, you’re taking one step forward and two steps back. It’ll feel as if you’re not making any progress (because you’re not!) and if you’re not motivated any longer, you’ll soon quit.

Make a commitment to yourself that you’re not going to rack up more debt while paying off your existing debt. You want to become debt-free and stay debt-free.

2. Have a Budget

It’s very difficult to manage your finances without a budget. You need to know how much money you’re earning and spending every month, and make provision in your budget for paying off debt.

We all have unforeseen emergencies from time to time. By having a budget you can plan in advance for unforeseen emergencies that can be paid from an emergency fund. This way it won’t derail your plan to get out of debt, leaving you feeling demoralized.

It’s not hard to make a budget. It’ll be much easier for you to tackle your debt once you have a budget in place.

3. Spend Less Than You Earn

You’ll never get out of debt if you consistently spend more than you earn. Saving money and paying off debt goes hand in hand. Cut wasteful expenses and use the money you’ve saved to pay off your debt.

Note: If it’s hard for you to save money, have a look at my article why you can’t save money. In the article I go through several reasons why many people find it hard to save money, and offer some helpful solutions.

4. Have a Goal Why You Want to Get Out of Debt

Wanting to be debt-free because debt is bad isn’t a goal, and it won’t keep you motivated for long. Paying off debt and cutting down on expenses can be hard, especially if you’ve allowed your debt to grow out of control.

There will be times when you’d rather blow some money on impulse buying instead of using it to pay off your debt. Your reason for paying off your debt should be better (and much more appealing) than the temptation to spend the money on something else.

Examples of goals include:

  • Being able to retire earlier and more comfortably.
  • Improving your credit score so you can get a better interest rate on an investment property.
  • Sleeping better at night knowing if you lose your job you won’t have to deal with a massive debt burden.
  • Paying off your debt because you want to start your own business on a clean slate.

“Don’t wait until you’ve reached your goal to be proud of yourself. Be proud of every step you take toward reaching that goal.”

Zig Ziglar

5. Have a Plan of Action (and believe in it!)

“If you fail to plan, you are planning to fail!” - Benjamin Franklin

Benjamin Franklin

You won’t get out of debt with only good intentions. You need to have an action plan you can follow. And, you need to believe in it!

Regardless of what method you choose to pay off your debt, you have to feel comfortable it’s right for YOU. If it’s not, adjust it to fit your needs and goals. If you don’t believe in what you’re doing it will be very hard to stay motivated.

By the end of this article, you’ll be able to put together a solid, realistic action plan.

Debt Snowball vs Debt Avalanche

Before we get to the debt snowblower method, let’s first have a quick look at the two most popular methods to pay off debt. They are the debt avalanche and debt snowball methods.

Debt Avalanche Method

The debt avalanche method (also called the debt stacking method) proposes you pay off debts with the highest interest rate first.

It’s a 5-step process:

  • Step 1. Decide how much extra you can pay towards your debt every month.
  • Step 2. Make a list of all your debts, and sort them from the highest interest rate to the lowest.
  • Step 3. Start paying off extra towards the 1st account on your list, while continuing to make minimum payments on your other accounts.
  • Step 4. Once an account has been paid off, roll the money forward to the next account on your list.
  • Step 5. Carry on until all your accounts have been paid off and you’re debt free.

The debt avalanche method follows a logical approach to paying off debt, based on maths.

Debt Snowball Method

The debt snowball method was popularized by Dave Ramsey in his book The Total Money Makeover. It proposes you pay off debts (excluding mortgages) from the lowest balance to the highest balance.

It’s a 5-step process:

  • Step 1. Decide how much extra you can pay towards your debt every month.
  • Step 2. Make a list of all your debts, and sort them from the lowest balance to the highest.
  • Step 3. Start paying off extra towards the 1st account on your list, while continuing to make minimum payments on your other accounts.
  • Step 4. Once an account has been paid off, roll the money forward to the next account on your list.
  • Step 5. Carry on until all your accounts have been paid off and you’re debt free.

Proponents of the debt snowball method say this method allows you to see faster results that will motivate you to carry on paying off your debts.

Research by the Harvard Business Review (The Best Strategy for Paying Off Credit Card Debt) supports this position. Note the article only covers credit card debt.

“Focusing on paying down the account with the smallest balance tends to have the most powerful effect on people’s sense of progress - and therefore their motivation to continue paying down their debts. This aligns with the other research on the power of small wins to keep people motivated.” - Harvard Business Review

Harvard Business Review

Note: I agree with the Harvard Business Review. In my opinion, the debt snowball method is the best way to pay off credit card debt.

Looking at the 5-step process for both the debt snowball and debt avalanche methods, you’ll notice they’re nearly identical. The only difference is the second step – Pay off debt with the lowest balance first versus pay off debt with the highest interest rate first.

Debt Snowball & Debt Avalanche Shortcomings

Both the debt snowball and debt avalanche methods can help you pay off your debt faster. They follow a simple, easy to understand approach. The downside though is they are often too simplistic.

One Size Doesn’t Fit All

We all have unique circumstances. We don’t all have the same budget – We don’t all earn the same amount of money every month or have the same expenses. Some of us are very comfortable financially while others may be fighting to keep their heads above water.

Depending on your financial position, neither the debt snowball nor the debt avalanche (or any other method) may be right for you. For example, if the bank is about to foreclose on your house it’s not the right time to be paying more on your credit card.

Note: Your house is secured debt whereas as your credit card is unsecured debt. If you’re in a bad financial predicament it’s normally advisable to take care of your secured debt first. 

If your financial situation is stable then either the debt snowball or debt avalanche method can be helpful.

They Treat All Debt in the Same Way

The debt snowball and debt avalanche methods treat all debts, except your mortgage, in the same way. They don’t differentiate between revolving debt vs installment debt.

Revolving Debt

Revolving debt (also known as a line of credit) such as a credit card doesn’t have fixed monthly payments over a specified period. Interest is normally calculated on a daily basis based on the amount of credit used. As you make payments and spend money on new purchases, your available balance will change.

Using your line of credit on a regular basis, without settling your balance in full every month, can be costly. You’ll spend a lot more on interest compared to an installment loan where the principal amount of your payment increases every month as the interest portion decreases.

Revolving debt is typically the most expensive debt you can have as it’s unsecured debt that attracts the highest interest rates. It’s also the type of debt that’s the most difficult to pay off because it’s so easy and convenient to use. This causes many people to slide down a debt spiral that’s hard to climb out of.

Installment Debt

Installment debt such as a car loan is debt that’s repaid in equal monthly payments over a specific period of time. When you start paying off the loan, you initially pay more in interest than towards the principal. However, every month the interest portion of your loan will decrease a bit and the principal portion will increase a bit.

Installment debt is often secured debt where the item financed (such as a car) acts as collateral for the loan. Based on this, interest rates for installment debt can be a lot less than for revolving debt. Note that installment debt isn’t always secured. For example, a personal loan is normally unsecured.

Treating installment debt in exactly the same way as revolving debt makes no sense. Your priority should be to get rid of revolving debt first. Only then does it make sense to tackle your installment debt.

Best Way to Pay Off Debt - Snowblower Method

In keeping with the “snow” theme I would like to propose another method which I call the debt snowblower method. It is, in my opinion, the best way to pay off debt.

Debt Snowblower Method

What Is the Debt Snowblower Method?

The debt snowblower method proposes that you pay off revolving debt first, followed by installment debt – from the lowest balance to the highest.

It’s a hybrid between the debt snowball and debt avalanche methods – it takes both the outstanding account balance and the interest rate into account. The key difference is it differentiates between revolving debt and installment debt, prioritizing revolving debt.

How Does the Debt Snowblower Method Work?

It’s a 5-step process:

The only difference between the debt snowblower, debt snowball, and debt avalanche methods is Step 2.

  • Step 1. Decide how much extra you can pay towards your debt every month.
  • Step 2. Make a list of all your debts, and sort them in the following order:
  • a. List your revolving debt first, from the lowest balance to the highest.
  • b. List your installment debt from the lowest balance to the highest.
  • Step 3. Start paying off extra towards the 1st account on your list, while continuing to make minimum payments on your other accounts.
  • Step 4. Once an account has been paid off, roll the money forward to the next account on your list.
  • Step 5. Carry on until all your accounts have been paid off and you’re debt free.

Why It’s More Effective Than Debt Snowball and Debt Avalanche

Debt Snowblower vs Debt Snowball

A lot of debt can be overwhelming and seem insurmountable. By paying off your account with the smallest balance first you’re taking the first small step towards becoming debt-free.

As the saying goes: “How do you eat an elephant? One bite at a time!” 

From a psychology perspective, it’s a lot easier to perform a small task before you attempt doing a more challenging task. By completing it successfully, your self-esteem gets a huge boost, and you’ll feel more confident and motivated to complete the next task.

The debt snowball and debt snowblower methods agree, in general, on paying off your account with the smallest balance first. Where they differ is the debt snowball method doesn’t differentiate between different types of debt.

The debt snowblower method suggests that paying off revolving debt, which is the most destructive type of debt, should be prioritized.

It doesn’t make sense to pay off a small installment loan first only because it has a smaller balance than a high-interest credit card.

Debt Snowblower vs Debt Avalanche

Paying off high-interest debt, as proposed by the debt avalanche method, makes perfect sense from a logical and financial perspective.

This is acknowledged by the debt snowblower method, which is why it says revolving debt should be paid off first – revolving debt typically carries the highest interest rates.

The debt snowblower method also acknowledges that paying off debt isn’t only about maths. Human psychology plays a big role. For this reason, revolving debt is grouped together but individual accounts will be paid off from the lowest balance to the highest.

Paying off debt requires a lot of willpower, and seeing fast results helps!

By only focusing on interest rates the debt avalanche method fails to take the human emotions that drive us into account.

Example

Assume you have the following debt:

DebtBalanceInterest Rate (APR)
VISA$3,00019.75%
Mastercard$5,00022.00%
AMEX$2,75020.00%
Toyota$2,5004.50%
BMW$23,0004.70%
Personal Loan$9,0009.00%
Student Loan$30,0006.00%

You’ll pay off your debt in the following order:

Debt SnowblowerDebt SnowballDebt Avalanche
AMEXToyotaMastercard
VISAAMEXAMEX
MastercardVISAVISA
ToyotaMastercardPersonal Loan
Personal LoanPersonal LoanStudent Loan
BMWBMWBMW
Student LoanStudent LoanToyota

Alternative Ways to Pay Off Debt?

There are alternative ways to get out of debt besides the debt snowblower method. However, that doesn’t mean they’re better.

Debt Consolidation Loan – You can take out a debt consolidation loan or personal loan to pay off your unsecured debt. You may be able to get a better interest rate this way. Having to pay off one big balance can be demotivating, and you need a good to excellent credit score. 

Transfer Balance to a 0% APR Credit Card – By transferring your credit card balances to a 0% APR credit card, you can get temporary relief from high interest rates. You’ll normally be charged a steep balance transfer fee of around 3% and in order to qualify you’ll need a good to excellent credit score.

Debt Settlement – If you’re unable to pay off a debt, your creditor may agree to give you a big discount for a lump sum payment. It will have a negative impact on your credit score, and cancelled debt of $600+ is taxable by the IRS.

Conclusion

By prioritizing revolving debt, and by paying off debt from the lowest balance to the highest, the debt snowblower method is the best way to pay off debt.

It’s an improvement on the debt snowball method that only focuses on the balance of an account and the debt avalanche method that only focuses on interest rates. All three methods do require a strong commitment though.

If you don’t have the self-discipline to pay off credit cards without making new credit card debt, none of the methods will work. Should this be the case it may be better to focus on paying off installment loans where it’s not possible to incur new debt on an existing loan.

Once you’re debt-free, save or invest the money you’ve used every month to pay off your debts. At xUSD paying off debt is only one component of managing your personal finances. Maintain a healthy balance between budgeting, making money, saving money, paying off debt, and investing.

Do you agree that the debt snowblower method is better than the debt snowball and debt avalanche methods? Let me know in the comments, and please share this post.

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xUSD founder - Casper du Toit

Welcome to My Blog!

I’m Casper du Toit, founder of xUSD.com.

Are you worried you may not be able to retire comfortably one day and might outlive your savings? It’s never too late to get financially savvy. My mission is to help you take control of your finances, even if you think you’ve left it too late.

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