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- Debt Snowball Method
- The debt payoff method that is, in my opinion, most popular in the personal finance blogosphere (maybe due to the catchy “ring” it possesses) is debt snowballing.
- Essentially, this technique involves reorganizing your debt payments so that you pay only the minimum required payment to all debt accounts, except for the one with the lowest balance. You then commit as much money as possible to paying off the lowest debt account balance as quickly as possible.
- Advantage = It gives the debtor the psychological benefit of seeing the number of their debt accounts dwindle quickly.
- Disadvantage = This technique also costs you the most money because while you are seeing the number of debt accounts you have decrease, you can still be paying out large amounts of money in interest in your higher interest accounts.
- For example, if you have a car loan (1% interest) balance of $500 and a credit card balance of $10,000 (28% interest), the debt snowball method dictates that you would pay off the car loan first, even though the credit card debt could be costing you hundreds of Dollars in interest.
- DOLP (Done On Last Payment Method
- The proprietary DOLP method is the cornerstone of David Bach’s Debt Free For Life book.
- It involves assigning each debt account a DOLP number.
- DOLP number = balance outstanding/minimum payment
- After assigning this number to each of your debt accounts, you then pay only the minimum payment for every account except the one with the lowest DOLP number.
- In my opinion, this method is good because it takes in to consideration both the psychological benefit of paying off a small account balance quickly and the effect of interest rates on minimum payments.
- Pay Off the Highest Interest Rate Account Balance First
- This is my favorite of the 3 methods, and also the one recommended in Ramit Sethi’s book, I Will Teach You To Be Rich.
- This method is very simple because you pay only the minimum required payment on every debt account except for the one with the highest interest rate, which you pay as much as you possibly can.
- It is my favorite because bottom line, this technique saves you the most money. Why is that? This is due to the fact that with this method, you will be getting rid of your (most costly) highest interest rate account first.
So, as you can guess, the “paying off the highest interest rate account first” approach was the one that Debtor Dan and I went with.
***Photo courtesy of http://www.loseweightguy.com/img/set-your-goal-and-take-action.jpg