Get Out of Debt…for Good

You’ve probably been told that when it comes to debt, it’s best to avoid it altogether. And, if you happen to find yourself in debt, the best way to get rid of it is to pay it all off as quickly as possible.

While that makes sense mathematically, it’s easier said than done.

According to a recent survey PDF   PDF opens in new window, eight in 10 Americans are in debt, with mortgage and credit card debt being the most common. Indeed, in early 2019 the average mortgage balance Opens in new window exceeded $202,000 Meanwhile, student loan debt Opens in new window averaged more than $35,000 last year, The typical car loan Opens in new window topped $18,000. And even though household credit card debt ($6,591 per household as of March 2020) has fallen during the COVID-19 pandemic, “drastic plastic” continues to burn a hole in Americans’ wallets. You can see how easy it is to feel overwhelmed!

What do you do when you have debt and want to get rid of it, but aren’t quite sure how to tackle the problem? Here are two simple ways to consider paying off your debt.

Avalanche method: Schedule rational payoffs

With the avalanche method, you list your debts from highest interest rate to lowest, and make minimum payments on all except the highest-rate debt. On that pricey balance, you’ll pay the minimum along with any extra money available. This method saves you the most money in the long run because you’ll pay off the most expensive debt soonest.

Here’s an example featuring monthly payments to four accounts:

Using the avalanche method, you’d make the minimum payment on credit cards 2, 3 and 4. That amounts to $90. You would also pay $50 for credit card one ($140 total), plus any additional money leftover in your budget. If you had budgeted for $200 per month to pay off credit card debt, you’d be able to throw $110 at number one, thus reducing your balance to $390.

Let’s say you’re able to apply $300 a month toward paying off the cards instead. The cards would be paid off in a little less than two years, and you would’ve paid a total of $849 in interest.

Snowball method: Think small and grow

You may have heard of another way to tackle debt: the snowball method. With this approach, you’d list all your debts and order them from smallest balance to largest. Using numbers from the previous example:

You’d make minimum payments on all debts except the one with the smallest balance; for that debt, you’d pay as much as you can until it’s paid off. Once that debt is out of the way, you’d apply your surplus to the next smallest balance, and so on, until you’ve paid off all your debt. This method can help motivate you with quick wins: You pay off a little debt (a line item) entirely and shrink your list (the number of debts) in advance of the overall amount you owe.

In this example, you’d pay a little more interest ($1,057) but—as with the avalanche method—pay off all debt in just under two years. Even so, you'd appear to cut your debt sooner because the first credit card would be paid off in as little as four months; with the avalanche method, your first debt wouldn’t be paid off until well over a year.

Research suggests that using either approach makes you more likely to get rid of all your debt than if you spread your money evenly across your various payments. However, with the snowball method, you can celebrate small achievements sooner—which might help you cultivate a positive, winning feeling.

Set and achieve small goals

Whether you choose the avalanche (cheaper) or snowball (more gratifying) method, setting goals that focus on smaller amounts of debt (such as what you owe on each account) rather than the big picture may help you cross the debt recovery finish line. Researchers at Northwestern University   PDF opens in new window found that people are more likely to reach a big goal if they break it into small sub-goals. For example, if you owe $5,000, paying off $500 then $1,000 makes paying off the master sum ($5,000) feel doable, not overwhelming.

Another study,   PDF opens in new window from Texas A&M University, came to a similar conclusion. It also found that the mere act of paying off even small debts using the snowball method makes you 14% more likely to retire all your debt.

What you can do next

If you find yourself worrying about a mountain of debt and thinking “I’ll never get out from under,” take a deep breath. Make a chart and use one of these methods to lift yourself out of debt by focusing on small, achievable goals instead of big, overwhelming balances.

Of course, you should consult your financial professional regarding your circumstances.

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