A majority of people in the U.S. have some form of debt. These include but aren’t limited to student loans, credit cards and personal loans. With so many debts to keep track of, how is one supposed to pay anything off? Simple – a debt repayment strategy!
Paying Down Debt With Debt Repayment Strategies
Reducing one’s debt is easier said than done, but there are two popular methods that may benefit you. These are the avalanche and snowball methods.
The Avalanche Method
The avalanche method focuses on paying off the debt with the highest interest rate first. Of course, this doesn’t mean ignore your other debts! Let’s say you have a personal loan, a credit card and student loans to contend with. In this scenario, your credit card carries the highest interest rate.
Each month, make sure you have enough money to pay the minimum due on each loan other than your credit card bill. The majority of your available funds will be used on the highest interest rate bill. The idea is that by neutralizing the highest interest rate first, you might save money in the end.
Be aware that some loans have prepayment penalties. You incur these penalties if you pay a loan off early. Make sure you know the details of your loan inside out!
The Snowball Method
While the avalanche method focuses on the highest interest rates, the snowball method looks at your loan balances first. Let’s say you have the same loans as above. The credit card still has the highest interest rate, but your personal loan has the lowest loan balance. In this case, you’ll pay the minimum due on all your other debts and focus most of your money on the personal loan.
Snowball method users like this method because you’re more likely to be able to pay lower balances than higher balances. This is good for momentum building as well, though opportunities to save on interest are slim to none.
Which Debt Repayment Method Should I Pick?
So which method is right for you? Both are reasonable in theory, which does make the choice more difficult. The reality is there is no wrong or right method for paying down debt – all that matters is you have a plan. If you’re looking for a place to start, make a list of all your debts (excluding mortgages). You should include the loan terms in this list, such as interest rates, and the balance left on each loan.
If there’s not a lot of difference in the interest rates you currently have, the snowball method may work for you. This is because as paying off smaller debts can build momentum. On the flipside, if you have a high interest loan that's an outlier, tackling it first can save you money.
Once you have your method, it’s recommended you also work on a budget. Besides the financial planning help it can offer, a budget lets you calculate how much money you have left over from expenses to put toward debt repayment. Don’t skip out on your budget! If you'd like to read more about creating a budget, check out our financial fitness blog on budgeting from earlier in the year.
Florida Credit Union is a full-service financial institution. Founded in 1954 as the Alachua County Teachers’ Credit Union, FCU now services over 130,000 members in 48 counties throughout North and Central Florida. For more information on the services we provide, visit FLCU.org or call us at 1-800-284-1144.