Fixing credit problems has become a priority for a lot of people. If you want to maximize the benefits that your finances can bring, you know that you need to find ways to be debt free. Some people experienced significant changes in their financial capabilities that required them to seek out debt reduction. Others are lucky enough to still be able to afford paying off their debts.
If you are not in a financial crisis but you want to make better progress with your debt payments, you have two options for your debt solution: snowball and avalanche. These methods do not need any fancy computations or debt reductions. You will end up paying for all your debts but this time, it will be through a more structured debt payment plan.
How to pay debts using the snowball and avalanche method
The snowball and the avalanche methods follow the same process when it comes to debt payments. Let us discuss the process first so you can immediately decide if you have the capabilities to do this on your own. Unlike the other debt relief programs, these two will not require the presence of a debt professional. Since you are on your own, it is best to understand what you have to go through to gauge if you can be successful at it or not.
Step 1: List all your debts. Make a list of everything that you owe. Since you will be manipulating the monthly payments that you will make, it may be a good idea to separate the debts that have prepayment penalties. Unless you can negotiate that these penalties be waived, then you may want to keep to the debts that are flexible enough to allow you to dictate the amount the you will contribute.
Step 2: Rank your debt according to priority. The snowball and the avalanche methods have different ways in prioritizing debts. The snowball gives more importance to the debt with the lowest balance while the avalanche prefers to tackle the high interest credit accounts first. We will expound on this later on in this article.
Step 3: Calculate your disposable income. This is the important part because you want to make sure that you can afford your monthly contributions. You can do this by creating a budget plan. Identify your net income, remove all your expenses (exclude debts included in your debt list) and anything that is left is your disposable income.
Step 4: Put aside an amount for your savings. This is also an important step because you need to protect yourself from the possibility of an unexpected expense crippling your finances once more. Be prepared and allot an amount from your disposable income to grow your emergency fund. Whatever is left will be your debt payment fund.
Step 5: Distribute the payment fund towards your debts. Make sure that all the minimum payment of your debts are satisfied and you have extra left over. If not, you may want to reassess your budget plan and either increase your income or lower your spending. If you do not have enough funds for the minimum payments and even a little extra, you may want to reconsider this debt solution.
Step 6: Put the extra amount into the priority debt. Once all the minimum payments of your debt have funds, anything that is left from your disposable income will be sent to your priority debt. This will allow you to complete payments on this debt a lot faster than the rest.
Step 7: Monitor your debt payments. You have to stick to this plan until you have completely paid off the priority debt. You can use online debt snowball calculators like the one’s from Dave Ramsey’s program on MyTotalMoneyMakeover.com or the one from Vertex42.com. You can also create your own monitoring form if you wish – it is a bit tedious but it will be custom made for your unique debt payments.
Step 8: Transfer any freed amount to the next priority debt. Once the priority debt is paid off, transfer all the freed amount to the next debt on your list. While keeping to the minimum of the other debts, focus on this next debt and completely pay it off. Repeat until all your debts are paid off.
Which is better to use for paying debts?
The main goal of both the snowball and the avalanche is to rank your debts according to priority but the difference lies in what each perceives to be the priority. Both debt payments, can protect your credit score while paying off debts but it is important to know the main difference between the two so you can make a smarter choice.
Snowball method. The snowball method concentrates on the debts with the lowest balance. You will list your debts and rank them from the lowest balance to the highest. The idea is to aim for an early success. If you focus your extra money on the debt with the least balance, you can experience the joy of completing debt payments on an account. Financial experts like Dave Ramsey believe that this will help motivate you when it comes to pursuing total debt freedom. Some people fail to complete a debt relief program because they become discouraged by the seemingly slow progress. This is what the snowball method would like to address.
Avalanche method. The avalanche method, on the the other hand, is all about prioritizing the debt with the highest interest rate. People who want to concentrate on minimizing the money wasted on interest will pursue this type of debt payment method. Financial experts who support this includes Suze Orman. Eliminating the debts with the high interest will make you pay a lower amount in the long run – as compared to the snowball method. However, you may have to wait a little longer to experience a debt payment success – especially if the credit account with the highest interest is the one with the biggest balance.
When choosing between the two requires you to look into your own personality. Since there is no debt reduction, you can expect that the journey towards debt freedom will be quite long. You need the motivation to complete your debt payments.
If you are the emotional one, an early success will help motivate you so the snowball method may be the better option. But if you are more of the logical one, knowing that you are saving more in the long run is enough of a motivation. That is regardless if it takes a longer time for you to achieve the initial success.