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Pay off Debt With the Debt Snowball Method

January 1, 2017
DEBT & CREDIT

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Sometimes you need quick wins to fuel your motivation to pay off debt.

The one thing we look for when paying off debt is progress. It always feels like the debt load can't shrink fast enough and the want to be debt free only creates more frustration. So how do you begin to pay down debt while still keeping your sanity and motivation?

If you are paying off several debts, a system that keeps you motivated with proof of progress can help keep you on track.

The debt snowball method is designed to be this type of debt repayment strategy. One of the greatest advantages is the psychological boost it gives people. Scott Rick, Ph.D. stated in an article on Psychology Today that the pleasure associated with wiping out debt might cause people to choose to pay off a small debt instead of buying something new. Though there are many psychological benefits to using the debt snowball method, there is also one big disadvantage.

It's important to know that if you decide to conquer your debt using this strategy, you will ultimately leave money on the table. Paying off debt by amount owed and not by how much interest you will pay over the long run will ultimately lead to you paying more interest over time.

  • Read: How to Pay Down Debt Using the Avalanche Method

It is very different from the debt avalanche method, which gives you a plan to pay off the high-interest debt first.

With the debt snowball method, you pay off debt in order from smallest to largest. One of the biggest supporters of this method is author and radio personality, Dave Ramsey. Ultimately, the method you choose to use while tackling your debt needs to be based on how well you know yourself. If you are the type of person who wants to celebrate short-term victories to inspire you to keep going, then you are the perfect candidate for the debt snowball method. If you are more analytical and saving money along the way is your goal, then the avalanche method might be a better choice.

BEFORE YOU GET STARTED

To decide how much money you have to use for debt repayments, you first have to calculate your monthly expenses. Creating a budget will allow you to see how much money you have left over to eliminate debt.

If you are working with limited income and a tight budget, I highly suggest that you start using the Cash Envelope Method for budgeting. I have written a detailed guide on how to create a budget using this method that you can read HERE.

Any extra income that you come across outside of your normal budget should be used to pay off your priority debt. This is sometimes called “debt snowflakes” and can help speed up your debt payment efforts.

  • Read: Should You Pay off Debt or Save?

HOW TO USE THE DEBT SNOWBALL METHOD

STEP #1: LIST YOUR DEBTS BY BALANCE

The first step in using the debt snowball method is arranging your debt from smallest balance to largest. Since you are only focusing on how much you owe, there is no need to record the interest rate for each debt.

STEP #2: COVER YOUR MINIMUM PAYMENTS

When creating your budget, it's important to budget enough to cover your minimum payments for each debt owed. Add up all of your minimum payments and then figure out how much extra money you have by using your budget. This can be found by subtracting your income from your expenses. If you have a positive number, that is the amount of extra money you have to begin to get rid of your debt.

If you end up with a negative number after you subtract your income from expenses, look for areas in your budget where you can cut back. For example, get rid of cable and get services such as Sling TV, Philo, Netflix or Hulu. Find ways to save on gas by taking advantage of public transportation or carpool with a spouse. Look for areas in your grocery budget where you can save money by using apps such as Ibotta.

STEP #3: START MAKING PAYMENTS

You still need to pay your minimum payments on each debt, but any money left over in your budget needs to be thrown at the smallest balance debt first. For people like me, who are obsessed with numbers and math, this can drive you absolutely crazy. With the debt snowball method, it doesn't matter if your highest-interest debt is the largest. Your smallest balance might be an interest-free loan, but using this method, it's the first to be repaid. If this really bugs you, then using the avalanche method is the best option.

Once your smallest balance debt is repaid, reorder your debts and start the process over. When you are ready to move on to your second priority debt, take the minimum payment and the extra funds you were using to pay off priority debt #1 and apply it to priority debt #2.

  • Read: 3 Spending Habits That Are Setting You up for Failure

HOW IT LOOKS IN REAL LIFE

For example, let’s assume you have three debts you are trying to pay off.

  1. $1,000 hospital bill (annual interest rate = 0%)
  2. $5,000 credit card (annual interest rate = 22.9%)
  3. $4,000 credit card debt (annual interest rate = 15.9%)

By using the debt snowball method, you would pay off the $1,000 hospital bill first. Yep, that's right. You would pay off the debt with 0% interest first before the debts that are accruing interest.

To make the example simple, let's assume the minimum payment for each debt is $50. If you have a total of $300 every month that you can use to pay down debt, $150 of that $300 will go towards covering the minimum payments, and the $150 that's leftover would be applied towards paying off debt.

With the debt snowball method, that extra $150 would go towards the smallest balance first, which in this example is the hospital bill. That means you would be paying a total of $200 ($150 extra funds + $50 minimum payment) towards the hospital bill until it was completely paid off.

Once the hospital bill is paid off, the extra payment would go towards the $4,000 credit card because it has the second lowest balance. That means you would be paying a total of $250 ($150 extra funds + $50 that you were paying towards the minimum payment from the hospital bill + $50 minimum payment from the $4,000 credit card) towards the $4000 credit card until it was completely paid off.

Finally, once the $4000 credit card is paid off, you would then put all $300 towards the last remaining debt, which in this example is the $5,000 credit card.

IS THE DEBT SNOWBALL METHOD FOR YOU?

Abandoning rationale thinking in favor of seeing progress when you get rid of debt has the potential to cost you money. Is the sense of achievement worth it? That's the question you have to ask yourself when deciding on a method to pay off debt. How do you define success? Is it getting out of debt quickly or is it paying the least in interest?

A study conducted by Kellogg School researchers found that people with large credit card balances are more likely to pay down their entire debt if they focus first on paying off the cards with the smallest balance – even if that approach doesn't make the best economic sense.

  • Read: How to Find Extra Money Hidden in Your Budget

Even if there are studies and evidence out there that support that quick wins fuel motivation, it's important to base your decision on knowing all of your options and the disadvantage and benefits of each.

MagnifyMoney has an awesome calculator that shows you the breakdown of each method. Just enter your different debts and how much you can afford to pay each month to get rid of debt. Once you have entered in this information, it will show you how much you will pay back for each method and how long it will take you to pay it off. It's a great free resource that I recommend using before making a decision on what method you are going to use.

  • Resource: Vertex42 Debt Reduction Calculator

Is seeing progress quickly more important that saving money on interest? Let me know your thoughts in the comments below!

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Filed Under: DEBT & CREDIT, Get Out of Debt Tagged With: CREDIT CARDS, DEBT, GET OUT OF DEBT, MONEY

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Hello, I'm Kumiko, but everyone just calls me Miko. Welcome to my blog, The Budget Mom. I am an Accredited Financial Counselor® , and mom to a rambunctious boy. Come along with me as I strive to live a life I love on a budget that I can afford. Read more about me.

RECENT YOUTUBE VIDEO

Ryen & I are talking about our June 2022 budget numbers! Not only do we show where our dollars went, but we also discuss if we stuck to our budget limits.

In this video, we are going over some heavy spending I had in June (thank you, sinking funds!) and Ryen gives an update on her debt payoff timeline. 

What do you do with your budget after the month is over, and you’re ready to begin a new month? Most people don’t realize it, but your spending throughout the month gives you some incredibly helpful information.

One of the first steps to creating and sticking to a realistic budget is tracking your expenses. Your spending is the underlying foundation for creating a budget and ensuring that your budgets in the future are successful.

If you are not aware of where your money is going, you can’t make the best decisions for your dollars. Today, I am going to show you how to extract all of the vital information from your expense trackers using the "Where Did My Money Go?" Worksheets.

CHAPTERS:
00:00 Introduction
09:57 Miko's Budget Category Breakdown
12:46 Miko's Investment & Savings Breakdown
14:21 Miko's Spending Comparison to May 2022
15:10 Ryen's Budget Category Breakdown
17:18 Ryen's Debt & Savings Breakdown
18:22 Ryen's  Spending Comparison to May 2022
19:08 Conclusion


➡️ HOW I TRACK MY SPENDING: https://bit.ly/3aIe89I
➡️ HOW TO USE A BUDGET CALENDAR: https://bit.ly/2IzF2Vj
➡️ FINDING YOUR WHY: https://bit.ly/3aJUryj
➡️ THE BUDGET MOM'S FINANCIAL FREEDOM STEPS: https://bit.ly/3cfJXsp
➡️ HOW TO GET STARTED WITH THE CASH ENVELOPE METHOD: https://bit.ly/2vQJaO5
➡️ HOW TO CREATE A PLAN OF ATTACK TO PAY OFF DEBT: https://bit.ly/2wDETxF

ABOUT ME

I'm the blogger behind https://www.thebudgetmom.com. I have a rambunctious 6-year-old son, live in Washington, and I'm passionate about helping people with money management and personal finance. Let me know what you like to learn more about! Leave me comments and suggestions on my video and let me know!

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