What is the "Snowball" approach to getting out of debt?
Getting rid of debt is an incredible feeling! But how can you accomplish that goal in the shortest amount of time possible?
Many financial experts will suggest paying off accounts with the highest interest rates first. While the math may make sense, the reality doesn't.
Personal finances generally boils down to a small amount of head knowledge, and a much larger amount of behavior. Human nature seems to need immediate gratification. In other words, if you don’t see any progress in the short run, you’ll probably quit running. So, you need some small victories along the way to stay in the game.
How does this relate to debt repayment? Simply put, you’re more likely to complete your debt repayment if you see some progress along the way. That means paying off smaller balance accounts first, regardless of interest rates.
Follow the step-by-step-instructions below to implement your own “debt snowball” plan.
1. List all of your debts (other than your mortgage) from the smallest balance to the largest. So you’ll have a list with the first column listing the debt and the second column showing the current balance for each account.
2. Then start a third column where you list the minimum payment for each account.
3. Create a fourth column where you enter the interest rate for each account.
4. Using your budget, establish the amount of surplus funds you have after accounting for all minimum payments being made.
5. In month one of your “debt snowball” plan, pay the required minimum payments on all debts. You’ll also apply any surplus funds (taken from the above step) to the first item on your list (this will be the lowest balance debt). The goal is to eliminate this first debt as soon as possible. Paying the little debts off first gives you quick feedback, so you are more likely to stay with the plan.
6. Once that first account is paid off, apply all surplus funds to the debt with the next lowest balance (including what you were paying to the newly paid off debt). This creates a snowball effect since you are building momentum by paying even more on that second account.
7. Then once debt #2 is paid off, you have even more cash to apply to the next debt since you’re effectively compounding payments from previously paid off accounts. Now add everything you were previously paying (to debt #1 and debt #2) to the required minimum on debt #3. The momentum is much like a snowball rolling downhill…the results are exponential!
Many financial experts will suggest paying off accounts with the highest interest rates first. While the math may make sense, the reality doesn't.
Personal finances generally boils down to a small amount of head knowledge, and a much larger amount of behavior. Human nature seems to need immediate gratification. In other words, if you don’t see any progress in the short run, you’ll probably quit running. So, you need some small victories along the way to stay in the game.
How does this relate to debt repayment? Simply put, you’re more likely to complete your debt repayment if you see some progress along the way. That means paying off smaller balance accounts first, regardless of interest rates.
Follow the step-by-step-instructions below to implement your own “debt snowball” plan.
1. List all of your debts (other than your mortgage) from the smallest balance to the largest. So you’ll have a list with the first column listing the debt and the second column showing the current balance for each account.
2. Then start a third column where you list the minimum payment for each account.
3. Create a fourth column where you enter the interest rate for each account.
4. Using your budget, establish the amount of surplus funds you have after accounting for all minimum payments being made.
5. In month one of your “debt snowball” plan, pay the required minimum payments on all debts. You’ll also apply any surplus funds (taken from the above step) to the first item on your list (this will be the lowest balance debt). The goal is to eliminate this first debt as soon as possible. Paying the little debts off first gives you quick feedback, so you are more likely to stay with the plan.
6. Once that first account is paid off, apply all surplus funds to the debt with the next lowest balance (including what you were paying to the newly paid off debt). This creates a snowball effect since you are building momentum by paying even more on that second account.
7. Then once debt #2 is paid off, you have even more cash to apply to the next debt since you’re effectively compounding payments from previously paid off accounts. Now add everything you were previously paying (to debt #1 and debt #2) to the required minimum on debt #3. The momentum is much like a snowball rolling downhill…the results are exponential!
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