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Excerpted with permission of the publisher, Wiley, from You Only Live Once: The Roadmap to Financial Wellness and a Purposeful Life by Jason Vitug. Copyright (c) 2016 by Jason Vitug. All rights reserved.

The debt avalanche method targets debt with the highest interest rate first, regardless of the size of the credit card balance. Once you've paid off the debt with the highest interest rate, you move on to the one with the next highest rate. You apply all prior payments from the paid- off debt to the next debt, essentially creating an avalanche.

Here's how this method works:

  1. List all of your debts, starting with the balance with the highest interest rate and continuing in descending order.
  2. Focus on repayment of the debt with the highest interest rate first, while making minimum payments on the other debts.
  3. Apply the payments from the first debt (now paid off) to the next debt, and so on.

The table below shows an example of using the debt avalanche method to pay off three credit card balances.

Table 8.1 Sample credit card debt repayment plan using the avalanche method

BalanceInterest RateMinimum Payment
Credit Card #150000.209989
Credit Card #25000.149920
Credit Card #363000.0999121

In this example, you would pay as much as you can on credit card #1, which in this case is $89 a month. Once that credit card is paid off, you would add that $89 to the $20 minimum payment for credit card #2. This becomes a payment of $119 (you can choose to add more to the payment as well). While paying off credit card #2, you'd continue to pay the $121 minimum monthly payment on credit card #3. After completely paying off credit card #2, you would then use the payments from credit cards #1 ($89), #2 ($20), and #3 ($121) to make the monthly payment on credit card #3 (a total of $240). After strict adherence to these monthly payments, you'll find that you've avalanched your way out of debt.

This method might make the most financial sense because you're prioritizing paying off debt with higher interest rates, and higher rates cost you more. However, as I've discussed previously, debt elimination has a lot more to do with your mindset than with the numbers themselves.

USING THE DEBT SNOWBALL METHOD

In contrast, the debt snowball method, you're choosing to pay off the smallest debt balances first. Once you've paid off the smallest debt, you then apply those payments to the next smallest, and so on. You'll eventually have more available money to pay toward the larger debts. Think of your increasing payments as a snowball that grows as it goes down a hill adding more snow.

Here's how this method works:

  1. List all your debts, starting with the one with the smallest balance.
  2. Focus on complete repayment of the debt with the smallest balance first, while making minimum payments on your other debts.
  3. Apply the same payments you made on the first debt (now paid off) to the next debt, and so on.

The table below shows an example of using the debt snowball method to pay off three credit card balances.

Table 8.2 Sample credit card debt repayment plan using the snowball method

BalanceMinimum Payment
Credit Card #150025
Credit Card #26300146
Credit Card #37000200

In this example, you would pay $25 a month toward credit card #1, which is the minimum payment plus what you've determined is the maximum extra amount you can pay. Once that credit card is paid off, you would add that $25 payment into the minimum payment of $146 for credit card #2. Your monthly payment on credit card #2 would then become a payment of $171 (you can choose to add more to the payment as well). While paying off credit card #2, you'd continue to pay the minimum payment of $200 for credit card #3. After you've completely paid off credit card #2, you would then use the payments from #1 ($25), #2 ($146), and #3 ($200) to make the monthly payments on credit card #3 (a total of $371 per month).

This method does not make the most financial sense, because the larger balances may be accruing more interest, in which case you will end up paying more overall. However, this method is best for those who are motivated in this way. As the snowball increases in size, the excitement builds, and the momentum continues to grow. The best method for you to use is the one that motivates you the most. Choose one method first, and if that doesn't seem to excite you about repaying your debt faster, choose another method.

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