The Debt Snowball Method is the absolute best way to get out of debt when you have multiple loans pulling you in different directions. This is especially true if you actually want to get out of debt way earlier than scheduled.
Ironically, conventional wisdom tells us to get rid of the loans with the highest interest rate first. But that’s not always the best approach to take, which is where the Debt Snowball Method comes in.
My husband and I used this method to get rid of our student loans and it worked like a charm. We’ve only got one major loan left – the mortgage – and now we can focus all our resources on that.
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Here’s what you need to know to make the Snowball Method work for you:
The Basic Concept of the Debt Snowball Method
The basic concept of the Debt Snowball Method is simple:
Pay off your loans starting with the smallest one first, regardless of their interest rates.
You still have to meet your monthly payments each month on all of your loans, but you will pick your smallest loan to focus on and try to pay it off as soon as possible. Doing this is simple, you just need to put as much as you can towards the principal each month even if it’s only $25. It just needs to be something.
Why The Debt Snowball Method Works
When you start with the smallest loan first, two big things happen:
- You reach your first milestone quickly, which provides major mental motivation. This is not something that should be taken lightly. Motivation is everything. In fact, it is quite possibly the most important factor in getting out of debt.
- Once you pay off the smallest loan, you free up cash flow that will now go towards the next smallest loan IN ADDITION to the minimum payment and the extra money you had already allocated. This is how the snowball forms.
Here’s an example:
Say you have 5 different loans. The required monthly payments for each are as follows: $85, $125, $210, $325, and $1,000.
Each month you will need to come up with $1,745 to meet your monthly minimum payments. In addition to that, you’ve found a way to allocate an extra $100 to go towards the smallest principal payments.
This means that the smallest loan (that you owe $85 a month on) will now have an extra $100 going towards the principal each month.
Once you have paid that loan off, you will start putting that $100 extra towards the second smallest loan (that you owe $125 a month on). You will also put the $85 that was allocated for the smallest loan towards the second as well. This means that the second loan now has an extra $185/month going towards the principal! And this is without any adjustment to your budget…which means no adjustment to your lifestyle.
Once the second loan is paid off, you will have $310 extra to put towards your third loan every month!
By using the Debt Snowball Method and finding just $100 extra to put towards your loans a month, by the time you get to your largest loan, you will have an extra $845 to put towards your principal each month! Not only is this without having to adjust your lifestyle at all, but it does not include additional payments that you are able to come up with along the way. Tax returns, bonuses, raises, and gifts will only help to speed the process along.
The Big Exception
The Debt Snowball Method works because it takes advantage of additional cash flow. It doesn’t take into account interest rates because they don’t have as much of an impact as cash does.
Except for one big, huge exception: Loans with exorbitant interest rates. You know where they are found? Credit cards.
If you owe money on credit cards, you need to get that debt taken care of NOW. More importantly, you need to stop accruing debt through that method. Just like a loan shark will take out your actual knees, credit card companies will take out your financial knees.
Keys to Making the Debt Snowball Method Work
One of the biggest reasons the Debt Snowball Method works is because it’s easy to understand and implement. You don’t need to be a financial expert and you don’t need to make a lot of money. This is all you need to make the Debt Snowball Method work:
- You need to have extra to put towards the principal each month. This is how the debt snowball starts. Don’t push this off. Even starting with $25 will have a huge impact.
- When a loan is paid off, all of the money that would have gone towards that minimum payment must go towards the next smallest loan IN ADDITION to what you were already doing. This is how the debt snowball grows.
That’s it. It’s that simple!
Before you know it, you will be debt-free and can start using debt to your advantage instead of your disadvantage.
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