Have you ever thought you should get out of your debts as soon as possible? Your answer is definitely yes. Everyone wants to get rid of debts. But how can we do it more quickly? There are several ways to do that. Debt Snowball method is one of the popular ways of them. First of all, why is the word snowball? Its because in this method we take snowball as a model. Do you remember how snowballs are created? Some may have done it yourself, others may have watched it on movies. If you make a small snowball out of snow and roll it on the surface of snow then it gets bigger and bigger. Eventually, it creates a big snowball. But what it has to do with our debt. Let’s take a look at it in this article.
With what type of debts will this work?
It works with any type of debt. Personal loans, student loans, mortgages, credit cards, house loans bla bla. Idea is to get rid of debts as quick as possible. So the type doesn’t matter.
How the debt snowball method works
Basic steps are as follows, don’t worry we’ll deep dive into each step later.
- List down all of your debts from smallest to largest
- In each item above, list minimum payment you have to pay each month.
- Decide how much of extra cash you can put on smallest debt you have
- Pay as much as possible towards your smallest debt payment each month. Make sure each extra amount is deducted from your capital/principal amount. While doing this pay only the minimum payment on other debts you have
- Once the first one is paid off, apply that amount you were paying to smallest debt to second smallest debt.
- Repeat the above steps until you are free from debts
Let’s take an example to see how the debt snowball method works
Step 1: List down all of your debts from smallest to largest
Let’s say you have four debts, one credit card loan, one student loan, one mortgage and a personal loan. After listing down from smallest to largest it looks like this.
|Credit Card Loan||$300|
Step 2: List down minimum payment for each loan
|Loan||Loan Amount||Minimum Payment|
|Credit Card Loan||$300||$40|
Step 3: Decide how much you can put on the smallest debt.
This is the interesting part. How can you maximise the minimum payment on your credit card loan? Instead of paying $40 a month. You should find a way to increase that amount. There are several ways to do it. You can spend less and save some. You can do some extra work to earn something more. Or even you can practice living below your means to achieve this. Let’s say somehow you were able to put extra $10 towards your smallest debt payment. Now you are paying $50 a month instead of $40. And make sure you pay the minimum payment on other loans while doing this.
Step 4: Once the first one is gone, go for the second smallest
As you are paying $50 a month for your credit card loan, it will be gone in 6 months. Then you can put that $50 you were paying to your personal loan. Then your monthly payment for a personal loan becomes $150
Step 5: Repeat above
Once you are doing this for all of your loans, They will be settled faster than you think. Good news is that you can make it even faster. Every time you get some extra cash like getting a bonus from your job, put that money towards your payments.
Effectiveness of this method
People argue that this method doesn’t work as expected in some situations. For example, if you have two debts which have a higher interest rate and higher amount to be paid and another with a lower interest rate with a lower amount to be paid. Debt snowball method prefers paying small debt first even though it is beneficial to pay high-interest rate loan first. But there are some psychological factors involved in this method. Humans are made such a way that seeing results soon will motivate him. Paying smaller debts first will make us happier and we see results sooner. You can refer to some researches that have done on this subject. Debt Snowball vs Debt Avalanche
Are there any other methods?
Of course, there are many other proven ways of paying off your debts. Some popular examples are,
- Debt Stacking
- Debt Avalanche
Following video shows how the debt snowball method works,