Is It Better to Pay off Small Credit Cards First?

Most personal finance writers agree that it’s good for people to pay off their credit cards as soon as possible. However, there are huge differences of opinion on what’s the best way to pay off credit card debt.

Is it better to pay off small credit cards first? Or, should you rather pay off the credit cards that charge you the highest interest rate first?

In principle, it’s better to pay off small credit cards first. Reducing the credit utilization of small credit cards can help improve your credit score. You’ll also see faster progress if you tackle your small credit cards first and these small wins can help to keep you motivated.

This doesn’t mean it’s always the best solution to managing your overall debt burden. As you’ll see in this article, you have to take your personal financial situation into consideration.

Pay off small credit cards first

Debt Snowball vs Debt Avalanche

The two most popular methods to pay off debt are:

Debt snowball method – Pay off the account with the smallest balance first.

Debt avalanche method – Pay off the account with the highest interest rate first.

How the Debt Snowball and Debt Avalanche Methods Work

  • Step 1. Decide how much extra you can afford to pay every month towards your debt.
  • Step 2. Add that amount to the minimum payment of the 1st account you wish to pay off. Continue making the minimum payments due for the other accounts.
  • Step 3. Once the 1st account has been paid off, add the full amount to the minimum payment of the 2nd account you wish to pay off. Continue until you’re debt free.

 Example:

Credit Card #1 – $5,000 at 21.50% interest
Credit Card #2 – $2,000 at 19.75% interest
Personal Loan – $9,000 at 15.00% interest
Car Loan – $7,000 at 5.5% interest

With the debt snowball method (pay account with the lowest balance off first) you’ll pay off your debt in the following order:

Credit Card #2 > Credit Card #1 > Car Loan > Personal Loan

With the debt avalanche method (pay account with the highest interest rate off first) you’ll pay off your debt in the following order:

Credit Card #1 > Credit Card #2 > Personal Loan > Car Loan

There’s a lot of debate about which method works the best. In my personal opinion, both methods have merit. They also have two serious shortcomings that are often overlooked, namely:

  1. They treat all debt in the same way – They don’t differentiate between unsecured vs secured debt or revolving debt vs installment debt. Whether it’s credit card debt, personal loans, student loans, or car loans makes no difference. They only look at interest rates or outstanding balances.
  2. They don’t take personal financial circumstances into account – They don’t take into consideration whether you have a good income and credit score, or whether you’re in a dire financial situation. Your financial situation plays a big role in how you should tackle debt.

If we assume both methods apply to only credit cards then the debt snowball method is the winner. The problem is it doesn’t only apply to credit cards.

For this reason, I have come up with a new method called the debt snowblower method that prioritizes revolving debt such as credit cards. It is in my opinion the best way to pay off debt. 

Why Is It Better to Pay off Small Credit Cards First?

The two main reasons why the debt snowball method beats the debt avalanche method insofar as credit cards are concerned, are:

1. It gives you a psychological boost.

By paying off small credit cards first, you’ll see faster results which is very motivating.

According to a research article called The Best Strategy for Paying Off Credit Card Debt, published by the Harvard Business Review:

"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."

Harvard Business Review

Let’s have a look at the example we mentioned earlier. Assume you have two credit cards and the minimum payment is 3%.

Credit Card #1 – $5,000 at 21.50% interest with a minimum payment of $150 (3%).

Credit Card #2 – $2,000 at 19.75% interest with a minimum payment of $60 (3%).

You decide to pay an additional $100 per month, starting with credit card #2 that has the lowest balance.

Credit Card #2

If you pay $160 ($60 minimum payment plus an additional $100) it will only take you 15 months to pay it off instead of 49 months if you only pay the minimum.

Credit Card #1 

If you pay $310 ($150 minimum payment plus the $160 carried over) it will only take you 20 months to pay it off instead of 52 months if you only pay the minimum.

This assumes your card has a balance of $5,000 when you start making your extra payments. If you have been keeping up with your minimum payments and have not been using the card, your balance will be less than $5,000 and you’ll pay it off even faster.

Note: You will save some money on interest if you pay off your credit card with the highest interest rate first. However, this doesn’t offset the feeling of accomplishment you get from seeing faster results by paying off your credit card with the lowest balance first.

This is the power of snowballing your debt. As it gains momentum you’ll be able to pay off your debt faster and faster!

2. It can help improve your credit score.

One of the main factors that determine your credit score is your credit utilization rate. This is the percentage of available credit you have left on a revolving loan such as a credit card. If all your credit cards are maxed out it looks bad to potential lenders.

Tip: Try to keep your credit utilization rate below 30% and if possible below 25%. You should always have at least 70% to 75% available credit left on your credit card.

By paying off your small credit cards first, you should be able to decrease your credit utilization rate faster.

Your Personal Financial Situation

Personal financial situation

We all have unique financial circumstances. As a general rule, it makes perfect sense to pay off small credit cards first. However, that doesn’t mean it’s right for everyone.

Here are a couple of scenarios worth considering:

Scenario #1. You’re Financially Stable

You’re managing to pay off your debt and meet your financial obligations. You would just like to pay off your debt faster, perhaps so you can save money or have more money to invest.

If the above scenario describes you then go ahead and pay off your small credit cards first.

Scenario #2. You’re Struggling to Pay off Your Debt

You’ve reached the point where you’re struggling to keep up with your debt payments. You’re still managing but you don’t know for how much longer you can keep it up.

If the above scenario describes you, paying off your small credit cards first is still a good idea but may not nearly be enough.

Talk to your bank, before you start defaulting on your debt payments, to see how they can help you. Consider various options that can help you to pay off debt. Explore ways you can make more money.

Scenario #3. You’re Drowning in Debt and Risk Losing Everything

You’ve reached the point where you can’t keep up with your debt payments. You’ve already defaulted on some or most of them, and have debt collectors on the phone every day.

Under the above circumstances, prioritizing paying off small credit cards first isn’t going to make a big difference. Credit card debt is often the last thing you want to focus on if you’re drowning in debt.

Decide what’s the most important to you, starting with secured debt. This is debt where you have offered the item financed as collateral should you default on your debt payments. It’s normally items like your house and car. If you only have $100, rather spend it on your car loan or mortgage instead of on credit cards.

Next, look at your unsecured debt. This typically includes student loans, credit cards, and personal loans. Talk to your lenders or debt collectors. It’s often possible to reach at least a temporary agreement with them. They’ll normally be willing to receive at least some money every month instead of nothing.

If you still find yourself unable to pay something towards all your credit cards, don’t prioritize your small credit cards. Rather focus on cards with larger balances where it’s more likely that a lender will take legal action against you.

Conclusion

In principle, it’s better to pay off small credit cards first regardless of the interest being charged. Follow the debt snowball method and start paying extra on the card with the smallest balance. Once it’s paid off, move to the card with the next smallest balance.

As you pay off one credit card, add the money you spent every month paying it to the payment of the next credit card.

Paying off small credit cards first can help improve your credit score and keep you motivated to become debt-free.

There’s only one time when it doesn’t make sense to pay off your small credit cards first. It’s when you find yourself in an extremely difficult financial predicament. Should this be the case, you may have to prioritize other debt payments first.

Getting out of debt by starting to pay off small credit cards is a good start. However, there are many other things you can do to help you get out of debt sooner. Have a look at the articles I wrote on how to get out of debt and ways you can make money online.

If you have trouble saving money, look at my article why you can’t save money and what you can do about it. By using the money you save to pay off debt, you can be free of debt much sooner.

As you’ll see on xUSD, I am a strong believer in following a balanced approach to personal finance. This means maintaining a healthy balance between making money, budgeting, saving money, paying off debt, and investing. Getting your personal finances in order is not only about what credit card you should pay off first.

Are you going to pay off your smallest credit card first? Or, would you rather pay off your credit card with the highest interest rate first? Let me know in the comments.

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xUSD founder - Casper du Toit

Hey, welcome to my blog! I’m Casper du Toit, founder and owner of xUSD.

My mission is to make personal finance easy to understand, and help you make good financial decisions.

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