You look at your pile of bills and sigh. Relief seems nowhere in sight. No one is riding in on a white horse to make things better. In fact, each month any small step of progress is erased the next month with an unexpected expense that makes the hole deeper. It’s getting depressing.
Now what?
I’m not going to sugar coat it. Getting out of debt takes time, intentional focus, and is hard work. But you already know that. If it was easy, the debt would already be gone. I want to give you some hope and a pattern to follow that will help you catch your breath, get your head above water, and eventually empower you to pay off your debt completely. Take a moment to think ahead to how good it will feel when you don’t owe anyone money. Take some deep breaths and let’s dive into a proven plan you can follow that works.
Save a small emergency fund of $1,000. “No, you don’t understand, I want to pay off my debt, not save money.” I understand. The best way to make sure you can stay on a path to paying off debt is to start by providing some margin between you and the ups and downs of life. An emergency fund is your buffer to make sure the small hiccups don’t derail you. Finances are more about behavior than math, and our behavior is often influenced by our emotions. If you are rolling along paying down debt and a $500 car repair smacks you between the eyes, it can throw you off balance. The panic of seeing your progress slip away as you figure out how to scrape together $500 is why you need that emergency fund. With $1,000 in the bank, you might wobble a bit, but you pull money from your emergency fund and keep on going. Without that money, you may find your progress stalled and your spirit crushed. All that momentum you worked so hard to generate before the repair bill hit is not stopped if you have built the cushion in advance.
Use a debt snowball to pay off your debts. Remember earlier when I stated that finances are more about behavior than math? This next step may offend your calculator, but it is the best option for any humans trying to pay off debt. In a debt snowball, you pay the minimum payment on each debt and put all extra money toward paying off your debts from smallest balance to largest balance regardless of interest rate. Math nerds will tell you to pay off higher interest rate debt first. It will save you a small amount of interest in the long run, but paying off debt is more about behavior than math. If you trade that tiny amount of interest for a heaping dose of success and encouragement, your probability of being debt free skyrockets. Let’s walk through an example to see why good math is not going to help you get out of debt as much as good sense.
Paying off debt is more about behavior than math.
We’ll start with two friends, Chris and Sam who each have identical incomes and the same amount of debt. Incidentally, the amounts here are based on current average US debts and rates for each category. The credit card rate assumes an excellent credit score:
| Description | Debt Amount | Rate | Min Payment |
| Federal student loan | $27,000 | 6.36% | $248 |
| Private student loan | $10,574 | 5.8% | $116.33 |
| Car loan | $41,665 | 7% | $700 |
| Credit card | $5,589 | 15.16% | $136.78 |
Chris and Sam each have $84,828 of debt which is starting to feel unmanageable. Paying $1,201 in minimum payments each month has not moved the needle for either one of them. Chris and Sam make a pact to get debt free, but they take slightly different approaches.
Sam has heard that you should pick the debt with the highest interest rate first and pay it off because it will save more interest in the long run. Sam decides to throw extra dollars at the credit card first, the car loan second, the federal student loan third, then finally the private student loan.
Chris favors a method called the debt snowball. The principle is to pay off the lowest balance first regardless of interest rate. Chris will attack the credit card first, private student loan second, federal student loan third, and car loan last. We’ll examine the wisdom of these two approaches.
Chris and Sam have tightened their respective budgets and taken part-time jobs leaving each of them an extra $1,200 a month to put towards debt. After five months, Chris and Sam celebrate! They have paid off their credit card. Only three debts to go! Chris takes the payment he was making on the credit card with the extra $1,200 and now pays extra on the next smallest balance, the private student loan. Sam takes the same extra amount and applies it toward the next highest interest rate, the car loan.
Seven months later Chris meets up with Sam to celebrate, but Sam is confused. Chris has paid off the private student loan and has only two debts to go! Sam is a bit puzzled with another 13 months to go until the car loan is paid. Chris is upbeat and feels “halfway there!” This is the critical point where the interest rate approach may fail Sam. Sam feels defeated. The facts are that Sam and Chris have each paid the same amount on their identical debts, but Chris has something extra to celebrate having knocked out a second debt while Sam is wondering if the approach should have been more like Chris’. Chris is beginning to believe while Sam is filling with doubt.
People need encouragement, and math doesn’t supply that, but success does.
If Sam continues the quest to pay off debt despite the discouragement of feeling behind, that debt free day will come at the same time as it will for Chris, forty months into the process. The reality is that people need encouragement, and math doesn’t supply that, but success does. Paying off a debt and having one less bill to pay comes with a sense of accomplishment and relief. It allows for a celebration, a measure of success that the mathematical formula didn’t account for when purely calculating interest. That progress is a positive reinforcement that people need to keep going. The math tells us that Sam and Chris are in the same spot having each paid $28,813 in the first year, but Chris has gotten more of an emotional payoff than Sam. For many people, that visible progress (or lack of it) can make the difference between continuing to pay off debt and giving up discouraged by the lack of progress. Chris is more likely to forge ahead buoyed by success, and Sam is at risk for calling it quits.
If we fast forward and assume that Chris and Sam stay the course, 25 months into the plan Sam pays off the car loan (two debts to go!) and Chris pays off the federal student loan debt in month 27. Chris has one debt left (yea!) and is rounding third heading for home while Sam is still making two payments each month. If they both see their respective plans to a successful conclusion, each will completely pay off all debt in 3 years and 4 months. That’s a big “if.” I’m pulling for Chris and Sam to both make it, but emotionally, Sam is less likely to see it through. If both do make it the full 40 months, Sam will have ridden more of an emotional roller coaster but will have paid $443 less in interest than Chris. Chris traded that .5% of interest savings for faster wins cementing commitment to the plan.
There is much more to cover around the mechanics of budgeting and generating extra money to help get out from under a pile of debt. Those are topics for another time. For now, if you are mired in debt and don’t know which way is up, take the small step of saving a $1,000 to give you a buffer against the emergencies in life, and use the debt snowball to build momentum to pay off your debt. It is an approach used by millions of people. For more details on the debt snowball, check out these links from Ramsey Solutions.
- Questions and Answers about the Debt Snowball
- Motivation as you pay off your debt
- Debt Snowball Calculator
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