Taking out a loan isn’t hard. The hard part is paying it off. It’s no wonder millions of Americans are struggling to get out of debt.
Although nobody plans to fall into a hole of debt, you can easily find yourself in one. A financial emergency, for instance, can leave you needing to take out a loan or borrow from friends and family.
But regardless of how you go into debt, paying off what you owe is a must. And when you’re ready to do it, there are various strategies, from snowball to stacks, you can use.
In this article, we’re digging into these strategies.
The Debt Snowball Method
If you’re looking for an ideal debt-repayment strategy, you probably have multiple loans or credit lines. Even it’s one type of debt (such as student debt) you probably have more than 1 student loan.
According to the debt snowball method, you should start by listing all your loans with the loan with the lowest balance coming first.
Here’s an illustration.
Student loan 1: $5,000
Student loan 2: $10,000
Student loan 3: $15,000.
Right now, you’re repaying the minimum installment for each loan. But under the snowball method, you must increase what you pay for the loan with the smallest balance, while keeping the amounts for your other loans at their minimums.
This means that if you were paying $200 for student loan 1 every month, you’ll now increase this to about $300. Consequently, you’ll pay it off sooner.
Next, move to student loan 2 and increase the monthly repayment amount. Since you’ve already paid off loan 1, you now have $300 floating around. Raise the repayment for loan 2 by this amount.
Keep doing this until you’re out of debt.
Debt Stacking Method (Avalanche)
While the debt snowball method requires you to list your loans from lowest balance to highest balance, the debt stacking method requires you to list the loans in order of interest rate. The one charging the highest interest rate comes first.
Here’s an illustration.
Student loan 1: $10,000 — 15 percent per annum
Student loan 2: $5,000 – 10 percent per annum
Student loan 3: $15,000 – 7 percent per annum.
Assuming all loans have the same term lengths (say 3 years), the loan with the highest interest rate will cost you more money. It’s for this reason the debt stacking method recommends paying off the loan with the highest rate first.
Increase the amount of money you spend on repaying loan 1 and keep the rest at their minimums. Move to loan 2 once loan 1 is paid off fully.
Debt consolidation involves using debt to repay debt. You take out a consolidation loan and use the money to pay off all the loans you’re consolidating.
Sticking to our student loans, consolidating them means taking out a $30,000 loan. Since the average interest rate is 10.6 percent, you’ll certainly get a lower rate, say 6 percent. A lower rate saves you money, meaning you can increase your minimum repayment and get out of debt sooner.
What’s more, you can use a service like Debthunch to get a consolidation loan. Is Debthunch legit? Read the reviews to find out.
Paying Off Debt: Which Method Works for You?
Paying off debt isn’t an easy task, but with the right repayment strategy, you can pull it off. The big question is: which strategy will you choose? Each strategy has its own pros and cons, so the ideal method for you largely depends on the nature of your debt.
Need more debt management tips? Keep reading our blog.