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Getting out of debt can feel overwhelming, but two common strategies may help: the debt avalanche and debt snowball. These debt repayment strategies may help you stay organized and motivated. Each takes a different approach to repayment, focusing either on interest rates or balance size. Here’s how they work and what to consider when choosing between them.
What is the Debt Avalanche Method & How Does it Work?
The debt avalanche method targets your highest interest rate debt first.
- You start by making the minimum payment on all your debts to avoid late fees and penalties.
- Then, put any extra money toward the account with the highest interest rate, even if the balance is large.
- Once that account is paid off, you move on to the next-highest interest rate, continuing the process until all debts are cleared.
The idea is simple: by tackling interest-heavy debts first, you may reduce the total interest costs you pay over time. That means more of your money goes toward the principal, not just interest payments.
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What is the Debt Snowball Method & How Does it Work?
The debt snowball method works by helping you build momentum through early wins. Rather than worrying about interest rates, you pay off your smallest balance first, no matter the cost.
- You begin by making the minimum payment on all your accounts to stay current.
- Then, you apply any extra cash toward the debt with the smallest balance, regardless of its interest rate.
- Once that debt is paid off, you move on to the next-smallest balance and repeat the process.
Over time, your payments “snowball” as you free up money from paid-off debts and apply it to the next in line.
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Debt Avalanche vs Snowball: Which is Right for Your Debt Type
Not all debt is created equal and the right strategy for debt repayment may depend on the type of account you're managing. Here’s a look at common types of debt and whether the debt avalanche or debt snowball method may offer a better fit based on interest rates, balance size, & your overall financial situation.
Credit Card Debt
If your credit card carries a high interest rate, the debt avalanche method may help lower your interest payments more effectively over time. On the other hand, if you’re juggling multiple credit card debts or a low remaining balance, the snowball method could offer quicker progress and a motivational lift.
Personal Loans
For personal loans with high rates or long terms, the avalanche strategy may lead to greater interest savings over time. If the loan is relatively small, the snowball method could help you pay it off early, simplify your monthly payment schedule, and potentially free up cash flow for other priorities.
Car Loans
When a car loan carries a higher-than-average interest rate, the avalanche method may be more efficient in reducing the total interest payments. But if your car loan is almost paid off, the snowball approach may help you eliminate it quickly, which could be satisfying and free up room in your budget.
Student Loan Debt
Private student loans often come with higher interest rates, making the avalanche method a potential fit for reducing interest costs. If a private loan has a small balance, the snowball method might still provide an early win.
Federal loans typically have lower rates and more flexible repayment options, so focusing on higher-cost debts first may make more sense if interest isn’t accruing rapidly.
Debt Consolidation Loans
If you’ve used a debt consolidation loan but are still dealing with relatively high interest rate debt, the avalanche method may help lower your total interest costs. However, if the consolidation loan has a lower balance than your remaining debts, the snowball method could help you pay it off sooner and simplify your repayment path.
Balance Transfer Credit Cards
Once the 0% APR (Annual Percentage Rate) period ends on a balance transfer credit card, interest may accrue quickly, making the avalanche method useful for reducing interest payments. If you’re still within the promotional period and the balance is small, the snowball method could still work, though it’s important to prepare for when the low rate expires.
Home Equity Loans
Since home equity loans often come with lower, fixed interest rates, the avalanche method may not significantly reduce your interest payments. In these cases, the snowball method could be a helpful way to simplify your debts. While the snowball method isn’t typically efficient for large debts, it may still be useful for simplifying repayment when interest rates are already low.
Other Ways to Pay Off Debt
Debt Management Plan
Typically offered through nonprofit credit counseling agencies, a debt management plan (DMP) is a structured plan where you make one monthly payment to the agency, which then pays your creditors.
This type of plan may help reduce interest rates or waive certain fees, which could make managing debt more affordable. It also simplifies repayment by combining multiple debts into one monthly payment, making it easier to keep track of due dates and avoid missed payments.
However, there are some potential drawbacks to consider. These plans generally require you to close your existing credit card accounts, and you typically can’t open new lines of credit while the plan is in place.
Debt Settlement
Debt settlement involves negotiating with creditors to accept less than the full amount owed. During this process, you typically stop making payments, which can result in accounts being charged off by creditors.
One potential benefit of debt settlement is that it may reduce the total amount you owe, which could help you avoid filing for bankruptcy. However, there are important risks to weigh. Debt settlement can significantly impact your credit score, especially when payments are paused.
Additionally, if the amount of forgiven debt exceeds $600, you could face tax consequences. Settlement companies may also charge high fees, which can further reduce any potential savings.
Debt Consolidation
Debt consolidation involves combining multiple debts into a single account, typically using a consolidation loan, personal loan, or balance transfer credit card. This approach is designed to simplify repayment and potentially reduce your interest rate, which could help lower the total cost of interest over time. Common tools used for debt consolidation include:
- Personal loan with fixed payments
- Balance transfer card with a promotional 0% APR
- Home equity loan (if you own a home)
The benefits of this strategy include streamlining multiple payments into one and possibly reducing your monthly payment or overall interest charges. That said, there are drawbacks to consider.
Consolidation may extend your repayment period, which can increase the total cost in the long run. It generally requires a good credit score to qualify for favorable terms. And while the structure of the loan changes, you’re still responsible for repaying the full amount of the new loan along with any interest that accrues.
Refinancing
Refinancing replaces an existing loan with a new one, ideally with a lower interest rate or more favorable repayment terms. This option is commonly used for car loans, student loans, or mortgages. Refinancing could reduce your monthly payment or shorten your loan term, which may help save on interest over time.
However, there are some potential drawbacks. The process may come with fees or prepayment penalties, and not all borrowers qualify for lower rates. Even with improved terms, you’re still responsible for repaying the new loan in full.
Bankruptcy
Filing for bankruptcy (Chapter 7 or Chapter 13) is generally considered a last resort for managing overwhelming debt. Chapter 7 bankruptcy may discharge unsecured debts, such as credit card balances, while Chapter 13 creates a court-approved repayment plan that typically lasts three to five years.
While bankruptcy could offer a fresh start, it comes with serious considerations. It can have a severe and lasting impact on your credit score, and it may not eliminate all debts. For example, student loans or recent tax obligations are often excluded. The process generally requires legal assistance and formal involvement with the court system.
Tips to Stay on Top of Debt Repayment
- Automate Payments: Use autopay for your minimum payments to avoid missed due dates, then make extra payments manually to stay in control of your debt repayment plan.
- Track Your Progress: Use a spreadsheet or app to monitor your progress. Watching your balances shrink and interest savings grow may help you stay motivated.
- Revisit Your Strategy: Life changes, so review your plan regularly. Adjust your monthly payments, switch methods, or explore options like a balance transfer if needed.
- Celebrate Milestones: Paying off a debt is a big win. Celebrating progress, even small victories, can help keep you motivated on your path to becoming debt-free.
Final Thoughts
Getting out of debt takes time, consistency, and a strategy that fits your unique financial situation. Whether you’re driven by interest savings or small wins, both the debt avalanche and debt snowball methods offer structured ways to make progress. The key is to stay flexible, monitor your progress, and choose a path that helps you remain committed over time
Speaking to a financial professional may help you understand your situation better and choose the right strategy for you.
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Sources
- Sofi. "15/3 Credit Card Payment Method: What It Is & How It Works." https://www.sofi.com/learn/content/15-3-credit-card-payment/
