Financial Priorities: Which Debts Should You Pay Off First?
There’s no one right answer, but you’ll probably want to order your debts by interest rate or by total balance—whichever works best for you.
Tackling your debt can be like cleaning up an attic filled with decades of accumulated junk. There’s just so much there, it’s tough to know where to start.
But much like cleaning out the attic, tackling your debt will seem much more possible once you develop a plan. And that plan starts with knowing which of the boxes of creepy dolls or which kinds of debt to remove first, respectively.
We spoke to the experts to find out which debts you should be tackling first. You’ll have to look elsewhere to deal with that creepy doll situation.
Take stock of your finances.
Before you decide which debts you’re going to focus on, you’ll need to take a good, comprehensive look at the state of your finances.
“First, take a very good look at all of your bills and put them into categories of monthly, weekly, yearly—and if there are other payment schedules, include them,” advised Leslie H. Tayne Esq. (@LeslieHTayneEsq), founder and head attorney at Tayne Law Group (@taynelawgroup). “This way you know what needs to be paid when. Then you can categorize those bills into necessities and wants.
“Take a good look at the wants to determine whether there are any you can cut down or eliminate so that you can free up cash flow for necessities. Then to get your finances in order, you need to know which necessity bills have to be paid first, what you can hold off or pay partially, and figure out a game plan for making payments. I use a desk calendar for bills and place the bills in red, so I know what to expect month-to-month. It keeps me organized and gives me a visual. You can also do this on an app or computer.”
Margaret M. Koosa (@magkoosa), CEO of The Alchemists, suggested determining the essentials before anything else: “One needs to determine their household essentials in their monthly budget. Cut down to the essentials to allow for the maximum amount to be put towards the payment strategy. (i.e. review cable, cell, dining out, unnecessary expenditures, etc).
“The status of one’s mortgage, car payments, tax debt, alimony, child support, etc, will impact what one needs to catch up on prior to paying down credit cards, student loans, etc. If one loses their home, their ability to get to work, wage garnishment, or imprisonment, then their credit card debt seems insignificant.”
Certified financial planner William F. Davis (@WFDCFP) offered a similar starting point: “When I work with new clients and we do a complete asset and liabilities statement, we prioritize what debts to pay off first—not necessarily to be able to pay them all off immediately, but rather finishing one, and then moving our focus to the next. Sometimes this takes a few months, sometimes it takes several years.”
But which debts should be addressed first?
The great debt debate: highest interest rate vs highest balance.
While you might prefer interesting movies, books, and television shows, when it comes to loans and debts, you’d rather go in the low-interest direction. Which is why you might want to get rid of the higher interest loans first, so the interest you owe on your debt won’t grow quite as quickly. And that’s often a good move. But not in every instance.
“Often you will hear people say to prioritize high-interest rate debt first, but it’s dependent on your financial situation,” explained Tayne. “Sometimes it’s about the credit you need the most, or accounts that are more aggressive in collection efforts.”
Tayne also talked about a debt payment method known as the debt snowball method: “It can also be helpful to pay off low balance debts first to free up cash flow to make more substantial payments on higher balance/interest cards. Once your first card is paid off, apply the total amount you were paying each month on that card to your next credit card.
“You will then be paying the minimum amount due on the second card plus the total monthly payment you were paying on your first credit card. Continue with this process with all your cards and other forms of bad debt. As you continue to pay off each debt, the monthly amount you are paying on the debt will increase allowing you to pay off balances faster.”
But you could also take the opposite method, depending on what suits you.
“If you want to save the most money, then list your loans with the highest rate loan at the top and list them in order with the lowest rate loan at the bottom,” empowerment coach Joyce Blue told us. “If you want more instant gratification, then list the smallest balance at the top and continue in this manner with the largest loan balance at the bottom.
“Then start making extra payments to the loan at the top of your list. Let’s say the minimum monthly payment is $100.00 and you have an extra $30.00 a month to that payment. Once that loan is paid off you take that $130.00 payment and start sending it to the next loan. Let’s say loan number two on the list has a $300.00 monthly payment, so you would be sending $430.00 a month. When that loan is paid off you’d start sending an extra $430.00 to loan number three on your list. Continue rolling payments to the next loan until they are all paid off.
Another debate to consider: good debt vs bad debt.
“Now there is ‘good’ debt vs. ‘bad’ debt to consider as well, says Blue. “As an example: a home loan is a good debt, so I usually suggest clients pay that last. However, there are still ways to save on the interest rates of good debt, as well, like splitting your payment in half and paying twice a month instead of once a month.”
“Good” debt is debt used to build your overall wealth. This is why mortgages are considered good debt since the value of your home will (theoretically) increase over time. You are using that debt to build up your assets. Another common example of good debt is student loans, as the education you’re receiving should increase your earning potential.
Meanwhile, “bad” debt is debt that doesn’t build your overall wealth. All it’s doing is sitting there, accruing interest and draining your bank account. The biggest example of bad debt is credit cards. It doesn’t matter how great you think you look in that awesome new jacket; it isn’t going to get any more valuable over time, so putting it on your credit card just decreases your total wealth.
When it comes to ordering your debts, paying off your “bad” debts first is a great idea. But you know what’s an even better idea? Using credit card offers to minimize your interest rates and maximize your debt payments.
“Determine the interest rate of every credit card, home equity loan, etc,” Koosa advised. “If one’s credit score allows the opportunity, transfer high-interest rate balances to 0% interest cards. There are promotional periods of 1-2 years, during which time, one can budget payments to have the balances potentially paid off prior to the interest rate increasing.”
With student debt, focus on your interest rates.
Student loan debt may be a “good” form of debt, but it has also become one of the fastest growing kinds of debt, and that problem is only getting worse. We aren’t going to be able to get into macro solutions for that problem right now, but we can offer you this personal advice from Phil Risher, founder of the Young Adult Survival Guide (@yasurvivalguide):
“If you are a recent graduate and have student loans only, I would focus on the UNSUBSIDIZED LOANS first because they accrue interest daily from the time you take them out. SUBSIDIZED LOANS give you a 6 month grace period before interest accrual.”
Paying off your debt can feel like climbing a mountain. But once you can grab that first foothold, you’ll be on your way!
One kind of debt you should avoid at all costs is debts from high-interest no credit check loans like title loans, cash advances, and payday loans. While there are safe, responsible bad credit loans out there, getting in debt to a predatory lender could derail your financial security altogether. To learn about how you can improve your financial outlook, check out these related posts and articles from OppLoans:
- 8 Ways To Save Money Today, Tomorrow and Every Day After
- Want to Raise Your Credit Score by 50 Points? Here Are Some Tips
- Good Personal Finance for the Long Term
|Money relationship expert and self-empowerment coach, Joyce Blue is a certified Rapid Results coach. Joyce is passionate about empowering others to master their relationship with money, so all of their relationships thrive, they step into their power and fall in love with their lives. Contact Joyce at email@example.com or on Facebook and Instagram @EmpoweringYouLEC|
|Teaching and training are fundamentals of William F. Davis’s (@WFDCFP) professional and personal life, both as a financial advisor and competitive baseball and softball coach. As a former adjunct professor at Temple University and La Salle University, Bill started his career in financial planning in 2009 in the Learning Department of Janney Montgomery Scott, developing and implementing continuing education for the firms’ financial advisors within the Private Client Group. Deciding to establish his own financial planning practice, Bill joined Ameriprise in 2016. He continues to incorporate a learning perspective into everything he does, helping his clients understand and actively participate in their own personal financial planning process and ultimately take control of their financial lives.|
|As the Chief Executive Officer at The Alchemists, Margaret M. Koosa (@magkoosa) focuses on developing mutually beneficial relationships with community and professional resources in order to better support the individuals and businesses with whom we work. She has exceptional drive and a strong work ethic, which help her maintain high levels of activity and unprecedented customer service.|
|Phil Risher is the founder of Young Adult Survival Guide (@yasurvivalguide). Phil paid off $30,000 in student loans in 12 months making 48k. After, he saved up and bought his first place with cash at the age of 25. Phil now speaks with college students and young adults around the country about his 5-Step Guide to help them on their financial journey.|
|Leslie H. Tayne, Esq. (@LeslieHTayneEsq) has nearly 20 years’ experience in the practice area of consumer and business financial debt-related services. Leslie is the founder and head attorney at Tayne Law Group (@taynelawgroup), which specializes in debt relief.|