In Debt? Two Ways To Pay Down Your Debt

By David Chang

debt

Financial problems are all around us. Many Americans today are in debt and are having difficulty paying it down. According to the latest statistics:

  • U.S. households have more than $15,000 in credit card debt.
  • 43 percent of Americans spend more than they earn.
  • 14 percent of income is used to just pay interest on credit card debt.
  • Overall, consumer debt has increased by more than 1,700 percent since 1971!

In addition, financial problems is the No. 1 stressor in marriages and is cited in 90 percent of divorce cases.

If you are one of these statistics, don’t despair. Following these steps can help you get out of debt sooner than you think. First, you must stop making excuses about your debt and start tackling it right away. Second, start a budget to control your expenses. Start with your income, and then begin subtracting your expenses, then set up your budget to control those expenses. The crucial thing here is to distinguish between your needs and wants, and then cut back on the unnecessary wants. In your budget devote more money to paying down your debt than just the minimum. The next step is to start paying down your debt! There are two popular ways to pay down debt: The Debt-Snowball Method and the High Interest Method.

  • The Debt-Snowball Method
    This method focuses on paying down the smallest debt first regardless of the interest rate. You concentrate on paying down as much of the smallest debt first while making the minimum payments on the rest. When you finish paying off the first debt, you roll over that payment to the next debt payment in addition to the minimum payment you were already making. When you continue to do this, the payments you make toward your debt grows larger like a “snowball.”
    To get started, first list all of the debts you have from smallest to largest. The interest rates and minimum payment amounts don’t matter. Here’s an example:

    1. Credit Card #1 = $500, 15% Interest Rate, Minimum payment $50
    2. Credit Card #2 = $800, 18% Interest Rate, Minimum payment $80
    3. Car Loan = $5,000, 10% Interest Rate, Monthly payment $150
    4. Student Loan = $10,000, 5% Interest Rate, Monthly payment $100

If you are making the minimum payments on all of these your total is $380 dollars. Let’s say you are able to throw $250 more to pay off your debt every month. You will apply to debt #1, so that means in month two debt number one is paid off.

In month three you want to take the $250 that you were paying to debt #1 and apply it to debt #2. So that means while you are making minimum payments on the other debt, for debt #2 you are now paying a total of $330 ($250 plus the $80 minimum you were making already). 

You repeat this every time you pay down a debt, hence it snowballs and the payments get larger. After debt #2 is paid off, you add that payment to debt #3 which is now $480 ($250 from debt #1 + $80 from debt #2 + $150 minimum payment for debt #3).

The reason this method can be effective is that uses human psychology to your advantage. By paying of the smaller debts first, you see fewer debts and get small positive victories. This is in turn motivates you to continue going.

In the long-run you may pay more than the High-Interest Method (described below) since higher interest debt can compound over time

  • High-Interest Method
    This method focuses on paying off the highest interest debt first while making minimum payments on the rest. Once the highest interest rate debt has been paid off, you move on to the next debt payment with the highest interest rate.

    The advantage here is that in the long run you end up paying less, but you do not see the regular successes as with the debt-snowball method. To get started, write down your debt in order of interest rate, not amount or minimum payment. Using the example above, the debt would be listed as:

    1. Credit Card #2 = $800, 18% Interest Rate, Minimum payment $80
    2. Credit Card #1 = $500, 15% Interest Rate, Minimum payment $50
    3. Car Loan = $5,000, 10% Interest Rate, Monthly payment $150
    4. Student Loan = $10,000, 5% Interest Rate, Monthly payment $100

    So here your goal is to pay down debt one as quickly as possible then move on to debt two.

  • Combining the Two! What you may be able to do is combine both methods but continuing to add to your debt payments and also pay the highest interest rate first. The result would be less money paid out in interest in the long-run and paying down your debt faster but snowballing the payments. 

    If you want to see the progress made just like the debt-snowball method, break up the big debt into chunks. You won’t have it paid it completely off, but you paid off a significant portion of it and you can move onto the next chunk.

Conclusion

Which method is better? It depends on the person. If you can handle paying off debt without seeing regular successes initially, then choose the high-interest method since you will pay less money in the long run and pay it off quicker.

But if seeing regular progress and success is important to you now, then the debt snowball method is the best method to choose. And of course, if you can combine the two methods, that is even better!

The important thing here is that you have an active plan to pay down that debt.

David Chang

Award-Winning Entrepreneur, Wealth Manager and CEO | Chief Editor, Author, Keynote Speaker, Consultant ArtofThinkingSmart.com | Political Consultant | Army Officer National Guard | Living To Fulfill Needs, Solve Problems, and Live Passionately!

4 Comments

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