Two popular methods people can use to pay off debt include the traditional method of “debt stacking” and another method called “debt snowball” recommended by financial advisor Dave Ramsey.
Each method has advantages and disadvantages, so before deciding how to cope with your own debt, it is important to understand what each strategy brings and why a procedure may or may not be better for your own situation.
The debt stacking process (also known as the debt avalanche method) recommend that you make a list of all your debts by choosing the interest rate, from highest to lowest.
For example, you might owe:
- Auto loan, $ 4,000-8 percent third highest interest rate
- Student loan, $ 1,900-5 percent lowest interest rate
The debt stacking process suggests that you make the minimum payment on all of your loans. Then you should throw all of your extra money to pay your Mastercard, which has the highest interest rate, at 19 percent.
Once you’ve wiped away your 19 percent master debt, the visa balance, which has the second highest interest rate, gets to 13 percent.
It takes you a long time to repay the visas as it has the highest balance, at $ 7,500. Keep doing. Every time you are done, you can start paying off the debt with lower interest rates.
This method saves you most of the money in interest payments, but it could take a long time to get a high-balance debt deleted from your list. You can feel frustrated after spending so much time and energy to pay a loan without feeling the spiritual victory without crossing it off your list.
According to the snowball method, you should throw every free cent they pay out, the loan with the lowest balance, regardless of interest rate.
If you used the snowball method, you would rearrange the list above as follows:
- Student loan, $ 1,900-5 percent lowest balance
- Auto Loan, $ 4,000-8 percent third lowest balance
- Visa, $ 7,500-13 percent, highest balance
You would make the minimum payment on all of your loans. Then you would throw every extra penny towards the debt with the smallest balance regardless of the fact that in this particular case it also has the lowest interest rate.
The idea behind this method is that the loan paid with the least balance will give you the psychological feeling of victory when you cross those loans off your list. The spiritual victory continues to motivate you to save money and repay your debts.
This method gives you an immediate feeling of victory, but it could cost more. Making minimal payments on your highest interest debt means that you will be paying more interest as compared to the debt stacking process.
Choosing which method to use
Personal finance is, well, personal. Paying off debt can be a little like dieting. Sure there are ideal eating plans out there, but let’s be realistic: Most people won’t stick to a perfect diet. The best diet is you will stick to.
Repayment of debt is similar. Be honest about making a budget that fits your personality and keeps you motivated. You will find most paying in interest if you don’t stick to your debt payout plan.
It’s okay to experiment. If the debt stacking process now sounds even more attractive to you and you try it for a few months and find that it doesn’t work, there is no reason why you shouldn’t switch to the debt snowball method.
A plan is a good idea, but that doesn’t mean you have to stick to it 100 percent of the time, 365 days a year. Things change, life throws you curve balls and you have to adjust. Sometimes that means changing your financial strategies. So don’t hit yourself if the first method you try doesn’t work. Hold it until you find something that does.