To read Part 4 of How to Get Out of Debt Series, go here.
Which Debt Payoff Method is Best
Chances are you’ve heard a lot of mixed advice about the best way to get out of debt. Maybe you heard you should payoff the one with the highest interest rate first, or the one with the lowest balance?
In this article, we’ll explore the four debt payoff methods strategies we use most often with our clients and who they’re best for so you can determine your plan of attack.
The one that’s right for you will likely depends on your unique financial situation. You may feel more motivated by paying off debt as fast as possible, no matter the sacrifice. Or you may need a quick win to stay motivated throughout the process. Or you may have a debt that is really weighing you down or causing a lot of stress so prioritizing that one makes sense.
There’s a debt payoff strategy for each. At the end, I’ll tell you what they all have in common.
But first, getting your debts organized is where you start. It’s impossible to know which one of these methods will work best for you if you don’t have a snapshot of your debts in front of you first.
And remember, if you are getting out of debt, you’re doing it right.
Debt Payoff Strategies
There are four major debt payoff strategies, listed below in no particular order.
Snowball
The Snowball method prioritizes paying off your smallest debt first and then rolling that payment into your next highest debt.
How it Works:
When you look at your list of debts, put them in order from lowest balance to highest balance, ignoring interest rates or payment amounts. Pay the minimum payments to all balances except the lowest remaining balance. Throw all extra money at that debt. Do this until that debt is paid off. Then throw all extra money at the next lowest balance, and so on until you are debt free.
Who it’s best for:
This method will work best for you if you want to get out of debt but have a lot of doubt about whether or not it’s possible. If your motivation to get out of debt wanes or comes and goes, targeting the smallest one can provide instant gratification and a quick win to help you stay motivated. By paying off smaller debts quickly, you’ll get confirmation that what you are doing is working.
If you have a bunch of debts and they feel overwhelming to you, like you’ve got a lot of “financial clutter” with minimum payments and due dates to keep track of, and you can wipe out some of them rather quickly, this strategy could be best for you.
Avalanche
The Avalanche method prioritizes tackling your highest interest rate debts first.
How it works:
When you look at your list of debts, put them in order from highest interest rate to lowest interest rate, ignoring balances and payment amounts. Pay the minimum payment to all your low-interest rate debts and pay the most that you can to the debt with the highest interest rate.
Who it’s best for:
This method will work well for you if you are driven to get out of debt and don’t need a quick win to stay motivated. It’s also best if you are motivated by financial gains, saving money or doing things in the most mathematical way. This strategy allows you to pay off the debt that is costing you the most money because of the high-interest rates, which might be really motivating for you.
If you have a bunch of debts and one of the interest rates is really high compared to the others, or if your balances are all about the same, this strategy could be best for you.
Highest Payment
This strategy is favored by “Rich Dad, Poor Dad” author Robert Kiyosaki. It says that you list your debt in order of highest payment to lowest payment (excluding real estate) and pay off the highest payment first.
How it Works:
When you look at your list of debts, put them in order from highest payment amount to lowest payment amount, excluding real estate, and ignoring balances and interest rates. Pay the minimum payments to all debts except for the highest payment amount debt, which you throw all extra money toward until it is paid off, then start again with the next debt and so on.
Who it’s best for:
This method focuses on your monthly payment amounts and is good for someone who has a very tight budget without a lot of wiggle room. By paying off the debt with the highest payment amount first, you free up this amount in your monthly budget and create extra cash flow. This extra allows you to weather storms, cover unexpected expenses and can dramatically reduce stress if you have a tight budget.
If you have a really tight budget, or if you have a debt with a high payment in comparison to your other debts, this method could work best for you. I often see this used when someone has a high car payment and maybe a year or less to pay it off, with large balances on other debts such as credit cards or student loans.
Emotional Baggage Pay off
I created this method after years of coaching clients and realizing that how we feel about our money plays a very important role in the progress we make and our overall trajectory. The Emotional Baggage method prioritizes paying off the debt that is emotionally toxic.
How it Works:
Typically this method is combined with one of the other methods. Let me explain. When you look at your list of debts, if there is one that reminds you of a bad financial decision or a difficult time of your life, and each month when you make the payment, you experience intense guilt, shame or regret, that debt becomes your first target.
Pay the minimum amount on all your other debts and pay all extra money towards this debt that makes you feel the most negative emotions. Once you have eliminated that debt, switch to another strategy that best fits you.
Who it’s best for:
This method focuses on the debt that is causing you the most stress, especially if it’s having an impact on the decisions you’re making today. If you have a personal loan to a friend or family member that has gone bad, or payments to an attorney after a particularly nasty divorce, these might be weighing you down and halting your progress.
If you look at your debts and think “I sort of hate them all equally”, then this strategy is probably not best for you. But if you look at your debts and one of them stands out to you, maybe you get a tight or sick feeling in the pit of your stomach, or it makes you want to avoid your money altogether, regardless of the reason, interest rate or amount, give yourself permission to get that out of your life by paying that debt off first. It will reduce the most stress and help stop you from reliving a bad decision.
Keep in mind: Not all debt payoff strategies work for everyone.
2 Common Mistakes When Paying Off Debt
Regardless of which method works best for you and your financial situation, I want you to be aware of a few common problems and some frequent errors that can easily occur as you work to pay off your debt.
Trying to Divide and Conquer
If you have multiple debts the worst thing you can do is try to pay a little bit more than the minimum towards all of them. When you do this, you divide your money and don’t conquer anything.
The best option is to pick one debt to pay off, pay the minimums on the rest and throw every extra penny on the one debt that you chose to tackle first.
Changing Pay Off Strategies Mid Payoff
This happens most often because you hear a famous financial guru make a recommendation, read an article about some new financial rule, or talk to a friend who has paid off his or her debt. They say, “Don’t do it that way. The best way is this way.”
Don’t listen to them. Choose your debt strategy and stick with it. Changing midcourse will only cause frustration, confusion or doubt and decrease your motivation.
Just Keep Going
If you are paying off debt, you are doing it right. There is no right or wrong way to pay off debt. Each person has to choose what fits their life and their personality best. Stick with it and throw all your extra money at that one debt you choose (after saving for upcoming expenses first) and you will get there!
I am rooting for you!
How to Pay Off Debt Series Summary:
Read all 5 parts of the How to Pay Off Debt Series:
Part 1: Why should you get out of debt?
Part 2: If you have debt, are you in trouble?
Part 3: Why can’t you get out of debt?
Get help creating your personalized debt strategy
Paying off debt gets a whole lot easier when your spending is under control first. That’s the idea behind the SpendFirst™ System — get your spending organized, see your money clearly, and then every extra dollar you put toward debt actually sticks. Find out more about SpendFirst and get on the waitlist here.
