How about you all? Have you ever used a debt-snowball to help motivate you to get rid of your debts? Did it work well for you? Share your experiences by commenting below!
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Today's guest post comes to us from Louise Baker. Louise is a freelance blogger and journalist who writes for Zen College Life, the directory of higher education, distance learning, and online degrees. She most recently wrote about where to get the best online criminal justice degree.
The Basics of Debt Snowballing
The idea of using a debt snowball to eliminate debt has become a commonly used debt reduction strategy in recent years. A debt snowball prioritizes debts by balance rather than interest rate. Many debt counselors will suggest this as the method of choice due to its ability to motivate individuals and families to continue on their path to becoming debt free. The snowball debt method is most commonly used for revolving debts, such as credit cards, but can be successful with other debt as well. Oftentimes, debt counselors will leave mortgage and car loans out of the debt snowball and focus on those debts at a later step.
- List all revolving debts that you plan to include in the snowball method.
- Order all debts from lowest balance to highest balance. In the case that two balances are similar, use the debt with the highest interest rate as the higher priority debt. This order will be the order in which you pay off your debts.
- List the minimum payment on every debt and commit to paying it on time each month.
- Determine how much extra money, apart from the minimum payments, you can devote to paying extra on your debts.
- Pay all debts on time, adding the extra amount from the previous step to the minimum payment on the top priority debt (smallest balance).
- As each debt is paid in full, add the minimum balance to the extra amount in step 4, and pay on the new lowest balance.
In order to do understand the principal, it is best to see an example. Take the following debts:
- Debt 1: Balance of $50 – Minimum Payment of $10
- Debt 2: Balance of $150 – Minimum Payment of $50
- Debt 3: Balance of $500 – Minimum Payment of $30
- Extra money that can be used to help pay off debt: $40
Using the principals above, you would make a payment of $50 on debt 1 (the minimum amount plus the extra amount you devoted to paying off debt). After the first month, the first debt is paid in full, so you now have the following debts:
- Debt 1: Balance of $100 – Minimum Payment of $50 (paid off $50 last month)
- Debt 2: Balance of $470 – Minimum Payment of $30 (paid off $30 last month)
- Extra money that can be used to help pay off debts: $50 (original $40 plus the previous debt’s minimum of $10).
Now you are able to pay $100 on the lowest balance debt. This includes the minimum payment of $50 as well as your “snowball” of $50. You continue with the principal until all debts are paid in full. As you can see, your extra money available to help pay off debts will increase as each debt is paid and a new minimum payment is freed. This is the "snowballing" effect. As you progressively pay off each new debt, it will act as a motivator to keep on track to becoming debt-free.
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