There are a number of schools of thought on debt payoffs.
-Highest interest first—Suze Orman
-Smallest payment first—My financial planner from USAA
-Debt Snowball (smallest balance to largest balance)—Dave Ramsey
-Secured debt first, unsecured later—source unknown
I must confess, I’ve tried all of these methods in the past ten years, and the only one that has worked for me is the Debt Snowball. Why?
It’s all psychological.
I can do math as good as the next guy, and I know it doesn’t make sense to leave a credit card balance out there and pay off a subsidized student loan, but I also know myself and I don’t like to fight loosing battles.
Progress for me can’t be measured in tiny bites. I’ve said it before; being in debt is like being eaten alive by a duck. One doesn’t notice one little bite—or maybe even two. Before long though, it’s all out of hand.
For me to feel progress, I’ve got to take big whopping steps—burning the village steps—to feel like I’m making progress.
Listing my debts smallest to largest and working up the list feels good. The list lives by my computer on an index card and gets updated monthly. I cross off debts. I ring a bell, or twitter or have the kids do a happy dance—whatever strikes my fancy. We put payoff certificates on the fridge and celebrate them like an honor roll report card. It’s mom and dad’s report card for doing well. We can now officially take off the dunce caps we’ve been wearing (they respectively read “Visa” and “Master Card”).
It feels good know I’m becoming debt free.
This year, we received a very large tax refund due to our claiming the adoption tax credit. The intention of this was to pay off the plane tickets we’d purchased to adopt our daughter (still on a Master Card at 8%). Instead, we used it and paid off two smaller loans—an adoption loan of $4,000 and the remaining $2,000 on a student loan. The rest was applied to other small debts.
I know I could have made a serious dent in the credit card debt, but instead, we received two certificates of payoff, and whacked off half of our “smallest to largest” list—even if it is just half in length, not half the outstanding balance.
I think I know why it’s called the snowball.
Like a snowball rolling down hill, claiming more snow as it rolls, our cashflow has improved with each of these payoffs—substantially! Each of those little debts we paid off had a pretty high monthly payment. That $15,000 credit card balance has a monthly payment of about $42, but the student loan was $110, and the adoption loan was $150 and there were some other small loans in the $100/mo range. Having all of those paid off frees up several hundred dollars per month to apply towards our bigger debts.
Finally, we see progress on those bigger debts. Stretching and straining to send an extra $200 or $300 per month was miserable, but now we automatically send $200 or $300, and stretch or strain a little bit and send another $200 to be dropping our balance measurably each month. That feels good.
So good in fact, that it’s becoming addictive.
Now, each time my husband takes on some overtime hours, or I take on an extra project, the money we earn is earmarked for those bigger debts. The whole family is seeing progress and the excitement has caught. We’re getting “gazelle intense” about busting our debt….and it is fun.
{ 3 comments… read them below or add one }
Jessica,
The debt snowball has been my key to winning as well. In the long run, yes I will end up paying more for interest charges by not paying off the higher interest rates first but by knocking out those smaller debts really gives me the confidence I need to keep going. Looking at my balance sheet and seeing 0’s makes me feel so much better and think I can really do this. I have my numbers plugged into a debt snowball worksheet and try to stretch myself into paying just a few dollars extra per month (by asking for a raise, selling things I no longer need, blogging, saving on food/going out) and see how that shortens the number of months I’ll be in debt. Even 5 or 10 bucks can make a huge difference.
And by forcing myself to live on a thin budget and pushing so much towards debt repayment I am realizing how much I can live without and thinking to myself where I will put that money once its all over.
Creditcruncher, It’s good to know I’m not the only one who needs the psychological boost.
Just for fun, I found our balance sheet from 2005 the other day. We had an oppressive $2,000 in credit card debt (I look back and laugh!), but my husband has felt like our adoptions got us in such gigantic debt.
In actuality, it was our cars! (Which came along, long before the kids!). I was archiving files the other day (and had nothing else to do with my free time) so created a month-by-month balance sheet of assets and liabilities going back several years–and was able to show my husband this… which just might save the prospects of more kids in the family–but next time, I won’t start until I’ve saved up enough for travel and legal fees, just for his peace of mind.
I agree, the debt snowball does give you the psychological advantage. It worked really well for us. Now the only debt left is a very large student loan. I could sure use some of the psychological advantage now because it feels like we’re spinning our wheels on this one.