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:
Avalanchee Method: Monthly payments
|Credit Card ||Balance ||Interest Rate ||Minimum Payment |
|Card 1 ||$500 ||26% ||$50 |
|Card 2 ||$2,500 ||18% ||$10 |
|Card 3 ||$1,000 ||15.07% ||$40 |
|Card 4 ||$1,000 ||12.82% ||$40 |
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.