Debt Snowball Method
The debt snowball method refers to the debt-repayment method of paying smallest debts first and then, paying the largest debts last. As each debt is paid off, the money spent paying that debt is then applied to the next debt on the list. Like a snowball, rolling down a hill, the debt-payment ball gets bigger and bigger, taking out the debt. This method is designed to help debtors see achievements quickly. These achievements help them to encourage them in getting out of debt, that it really is possible.
Financial guru, Dave Ramsey, says, “You need some quick wins in order to stay pumped enough to get out of debt completely. When you start knocking off the easier debts, you will start to see results and you will start to win in debt reduction (2).” Consumers typically apply this method to credit cards. Dave Ramsey encourages individuals to cancel credit cards after they pay off each card.
How does one begin?
The first step is to list all creditors with debts in a chart or spreadsheet from smallest to largest balances. If two debts are the same amount, list the one with the highest interest rate first. Otherwise, disregard the interest rates. Again, this process is designed to give quick feedback or help an individual feel some success. As a result, he will be more likely to follow his debt-repayment plan and get out of debt.
The argument against the debt snowball method is that while individuals pay off small debts first, larger debts with possibly larger interest rates are gaining interest. As a result, individuals are paying more money. However, financial professionals who support the debt snowball method say otherwise. Dave Ramsey says, “Personal finance is 20% head knowledge and 80% behavior (2).” Unless an individual finds success, like mentioned above, he will continue to go through this cycle, where he pays off some debt, accrues more because the debt seems too high, and then, back and forth.
The Debt Avalanche method counters the debt snowball method, claiming that not everyone needs “quick wins,” as Dave Ramsey suggests. This method has an individual list all debts from highest interest rate down to lowest interest rate. Mathematically, this debt repayment method avoids extra interest payments. While it may work for disciplined individuals, financial critics claim it does not take into account the feelings revolved around money and therefore, is not as successful in becoming debt free as the snowball method.
Either way, individuals need to find what works best for them. The best policy is to avoid debt in the first place. Pay cash. Stick to a budget. Keep track of expenditures and see where money goes each month. If too much money is being spent in a particular area or individuals find themselves not staying within the budget allowed, changes need to be made and individuals must be held accountable.
Debt-free individuals have more freedom to do what they want when they want. They understand the value of work and the need to prepare for the future. They sacrifice and put off their natural desires today to secure a better tomorrow.
If you find yourself in debt up to your ears and feel completely overwhelmed, give the debt snowball method a shot. It may be the “quick win” you need to begin your journey back to financial security.
References
1)http://en.wikipedia.org/wiki/Debt-snowball_method
2)http://www.daveramsey.com/article/get-out-of-debt-with-the-debt-snowball-plan/
3)http://www.consumerismcommentary.com/2009/05/29/debt-reduction-methods-and-philosophies-snowball-avalanche-and-more/
Filed under: Business • Finances
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