Want to Get Out of Debt? Then Let It Snow(ball)!

The Debt Snowball method of paying off your debt takes small steps to make a big difference…

Once Christmas and New Years are over, the winter can feel a bit, well, wintery. The days are short, the nights are dark and the temperatures are low. While you’re sitting around, counting the days till spring, you might as well take a long, hard look at your finances. (You know what goes really well with blankets and hot cocoa? Spreadsheets.) A big part of most people’s finances is their debt, usually too big, and figuring out how to pay it all off can leave people feeling discouraged. Luckily for them, another reason that winter is the perfect time to reassess your finances is that it can provide some much-needed inspiration. You like snowball fights? Well why don’t you try…

THE DEBT SNOWBALL METHOD

If you have a lot of debt, that probably means you have a lot of different debts. You owe money on your credit cards, you owe money on your mortgage, you owe money on your car and your medical bills and your student loans. When formulating a plan for paying off your debt, a good first step is deciding where to start.

The Debt Snowball gets its name from the old cartoon image of a snowball rolling downhill; it begins as a tiny, fist-sized ball and then picks up more and more snow as it goes, slowly transforming into a giant snow boulder. (And then it crushes Elmer Fudd. But that’s beside the point.) With the Debt Snowball, you pay off your smallest debt first and then use the funds that were going towards that debt to begin paying off your next largest debt, and so on. It’s called a Snowball because the amount you have to pay toward your remaining debts increases with each individual debt you pay off.

To best illustrate how the Debt Snowball works, let’s take the example of a 100% hypothetical guy named Bill. When Bill tallied all of his loans and credit cards, he discovered that he had $44,500 in debt. This was negatively affecting Bill’s credit score, so he decided to pay off his debt using a Debt Snowball.

Bill began by organizing all of his debts in ascending order from smallest to largest. He made sure to also include the minimum payment for each debt. His spreadsheet looked something like this:

Name of LoanPrincipalAPRMonthly Minimum
Macy’s Card$1,50013%$31.25
Visa Card$3,00019%$77.50
Personal Loan$8,00015%$322.00
Car Loan$15,0009%$362.5
Master Card$17,00014%$368.33

According to his chart, Bill was already spending $1,161.58 per month paying justthe monthly minimum payments. By trimming his spending back, Bill was able to set aside $2,000 a month for debt repayment. This left him with an extra $838.42 beyond the monthly minimum payments to start paying off his debt.

Bill’s smallest debt was his Macy’s Card, which only had a $1,500 principal. He took the $838.42 in extra funds and added it to the monthly minimum payment of $31.25. This meant he was paying a total of $869.67 per month. In two months, Bill’s Macy’s Card was entirely paid off.

At that point, Bill took the $838.42 in extra funds and the $31.25 that he was no longer paying towards his Macy’s Card and he added bothof those to the $77.50 monthly minimum on his next largest debt, the Visa Card. Each month, he was now paying $947.17 towards that $3,000 principal. In four months, that principal was $0.00.

Continuing in this fashion, it took Bill seven months to pay off his $8,000 personal loan, ten months to pay off his $15,000 car loan and nine months to pay off his $17,000 Master Card. All in all, it took him 32 months, a little under three years, to fully pay off his debt. If he were start in January 2016, he would make his last payment in August of 2018. And if he was able to increase his income — perhaps by taking on a second job — or find more places to trim his spending, that last payment would come even sooner.

The Debt Snowball is oftentimes associated with financial guru Dave Ramsey. The major drawback to the method is that, by paying off the lowest principal instead of the highest APR (like you would in the debt avalanche method), you can end up paying more in the long run. Ramsey has been quick to point out that one of the major benefits of this method is how it rewards people with early successes. Paying off that first debt feels good. Really good. And that feeling encourages people to stick with the occasionally painful process of living well below their means.

So, do you feel like you need some encouragement this winter? Skip the cocoa. Try the Debt Snowball.

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