Debt Snowball. What is it?
debt (Photo credit: Alan Cleaver)
This term “Debt Snowball” what does it mean, does it refer to when Frosty the Snowman went over his credit limit? I don’t think so. Its a term made famous by financial guru Dave Ramsey. The way it works is first be current in all your debts. List all your debts from smallest to largest ignoring interest rate. Pay the minimums on all your debts except the smallest one. The smallest one pay the minimum and as much other money you can scrape up to pay it off as fast as possible. After the first debt is paid off take that amount and add it to the second debts minimum. Hence increasing the payment on the second debt. When that one is paid off, take all that money add it to the the third minimum debt payment. Keep doing this till you go thru all your debts. This plan allows you to focus an ever increasing amount of money on your smallest debt. Every time the debts are paid off the snowball payment keeps getting bigger ultimately getting you out of debt sooner.
The key to this plan is the focusing on the smallest debt for an emotional win. Even though other debts may be a higher interest rate. You may be thinking paying off the highest interest debt first would be mathematically correct. The emotional win is more valuable to the individual. To have a couple of wins under your belt is a ego boosting feeling. This gives you the encouragement to keep going. In my personal experience it the only thing that kept me going and still does. The tedium of going thru this process is exasperating. It takes a long time and is a lot of work. You could lose patience and chuck it all if you didn’t have some early wins. It like when you go on a diet and exercise. If you don’t see results you most likely give up.
The argument of paying higher interest debt first is mathematically correct. It seems the right way to go. But responsibility with money is more psychological than math related. If you did the math on using credit, you wouldn’t us it. It goes along with impulsed purchasing. Did you ever want to purchase an item. Maybe something you were exposed to when you were walking down the isle of a store. You just grabbed an item and put it in your shopping cart. Your whole thought process consisted of: See item, like item, I have credit card, Buy it. Totally a Pavlov’s dog reaction. Not more than 2 second thought process and programed response. Now if you had left that credit card at home and only had cash the entire event would of happened differently. Thought process would go something like this. See item, like item, I only have cash, Do I want to use my little bit of cash on this piece of junk. Answer, “No”. Its not automatic, it actually takes longer to decide to purchase because using cash actually hurts. Using credit is fun and painless and can be rationalized easily. You actually buy more stuff when you use credit.
Here is an example of the debt snowball in action:
- Home Depot – Balance 1214.00 – minimum 22.00 – Interest 15%
- Chase 1 – Balance 2858.00 – minimum 36.00 – Interest 2.9%
- Chase 2 – Balance 7076.00 – minimum 170.00 – Interest 16%
Category: Debt
