Money, Uncategorized

The Debt Snowball

What is the “debt snowball” and why is it important to the debt free journey? 

The debt snowball is a tried and true method that many people have had success with in their debt free journey. Many notable financial gurus preach about the debt snowball method, because it works. 

The idea behind the debt snowball is to focus on paying off one debt and when that debt is paid off, you are supposed to take the money you were paying on it monthly and apply it, along with the minimum payment, to the next debt on your list.

There are two different ways to do the debt snowball.

  1. Order your debts from smallest balance to largest balance. Start paying extra on the smallest debt. When that debt is paid off, move to the next one.
  2. Order your debts from highest interest rate to lowest interest rate. Pay extra on the debt with the highest interest rate until it is paid off, then move to the next on the list.

There are advantages and disadvantages to both methods and to be honest, you just have to choose the one that works the best for you.

Debt snowball version 1 is great because psychologically it is very rewarding. Dave Ramsey preaches that seeing the smallest debts get paid off gives you a psychological boost and gives you encouragement to keep going. As you get more of these “small wins” as they are called, you get more gratification and are thus more motivated to continue your journey and attack the bigger debts more aggressively.

Debt snowball version 2 is great because it saves you the most money in interest in the long run. Paying off your largest interest debt first means you aren’t racking up high amounts of interest as you tackle the rest of your debts. You will be paying less over all by doing the snowball this way. The problem with this version of the debt snowball is that it isn’t very instantly gratifying if your highest interest debts are your larger debts. Many people that try the snowball this way get discouraged easily and give up on the journey altogether. It is for this reason that many financial gurus advise of doing the snowball version 1, so that you continue on with the journey and actually get the debt paid off.

I have several different types of debts (car loans, credit cards, student loans, cell phone device payments, personal loan and money I owe to a family member). I chose to focus on my credit cards first on this journey because they were costing me $393 a month in minimum payments, have the highest interest over any of my other debts and the interest I am paying on them is the biggest waste of money ever. I started out my journey with 12 credit cards and now currently have 8 credit cards. Yes, that’s right, I paid off 4 credit cards in 4 months (granted, the 4 I paid off did have small balances), but still, progress is progress.

Here’s a list of my original credit cards and balances from the start of my journey:

  1. Fingerhut – $42 – ($6.99 per month minimum payment)
  2. Kay Jewelers – $138 – ($25 per month minimum payment)
  3. Credit Union Card 1 – $236 – ($25 minimum payment)
  4. Credit Union Card 2 – $411 – ($25 minimum payment)
  5. Capital One Card 1 – $467 – ($25 minimum payment)
  6. Walmart – $779 – ($25 minimum payment)
  7. Credit Union Card 3 – $941 – ($25 minimum payment)
  8. Credit Union Card 4 – $942 – ($30 minimum payment)
  9. Target – $1,051 – ($32 minimum payment)
  10. Credit Union Card 5 – $1,943 – ($40 minimum payment)
  11. Barclay Card – $1,464 – ($44 minimum payment)
  12. Capital One Card 2 – $3,076 – ($90 minimum payment)

I also included my cell phone device payments along with my original credit cards but wasn’t focused on paying off the cell phones as aggressively as the credit cards since they are on interest free payments. I have four cell phones on device payments because I pay for my two sisters to have phones as well as one for me and one for my boyfriend. The cell phone balances at the start of my journey were as follows:

  1. Line 1 – $848.61 – ($40.41 per month minimum payment)
  2. Line 2 – $848.61 – ($40.41 per month minimum payment)
  3. Line 3 – $424.92 – ($35.41 minimum payment)
  4. Line 4 – $389.51 – ($35.41 minimum payment)

These cell phone device payments are costing me $151.64 a month, on top of the monthly phone bill.

So in the first four months of my journey, I have paid off credit cards 1 through 4, $827 in principal balances. I paid off roughly another $400 in credit card debt by paying the minimum payments on all the other cards. This is not to say that I didn’t make any mistakes. The debt free journey is hard work. It is a struggle and it is a learning process.

During these first four months I used credit cards for two separate online purchases. One for $41 and one for $46. That could have been another $87 paid off, had I used my debit card for these two purchases instead. I told myself, “oh, I’ll just use my credit card to make these two purchases, I’ll send an extra payment to the credit cards when I get paid.” The problem is that I never followed through with making those extra payments. This is exactly the behavior that gets us in debt to begin with, and keeps us in debt as time goes on.

After four months on the debt free journey, here’s what my updated snowball looks like:

Credit cards:

  1. Capital One Card 1 – $456 – ($25 minimum payment)
  2. Walmart – $754 – ($25 minimum payment)
  3. Credit Union Card 3 – $861 – ($25 minimum payment)
  4. Credit Union Card 4 – $840 – ($30 minimum payment)
  5. Target – $1,008 – ($32 minimum payment)
  6. Credit Union Card 5 – $1,944 – ($40 minimum payment)
  7. Barclay Card – $1,405 – ($44 minimum payment)
  8. Capital One Card 2 – $2,871 – ($90 minimum payment

Cell phones:

  1. Line 1 – $767.79 – ($40.41 per month minimum payment)
  2. Line 2 – $767.79 – ($40.41 per month minimum payment)
  3. Line 3 – $354.10 – ($35.41 minimum payment)
  4. Line 4 – $318.69 – ($35.41 minimum payment)

 

… to be continued

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