Debt can be a slippery slope.
You could be doing just fine and then, suddenly, an unexpected medical bill starts the slide. Or a job layoff. Or perhaps buying a more expensive home than you can handle. Maybe you use a credit card—or three—to keep up for a while. But one problem triggers the next, and the next, and eventually the debt can just swallow you up.
Problem is, the deeper in you get, the harder it can be to get out. But it is possible. You just have to find a way to reverse the momentum and put yourself back in control.
One way to do that is to commit to a debt pay-down approach called the Debt Avalanche Method. Its goal is to get you back on track in a logical and inexpensive way—by focusing your payoff efforts on the debts that carry the highest interest rates. If you decide to use this method, here’s how it works:
How the Debt Avalanche Method Works
First, make a budget—determining exactly what you have coming in each month and how much must go out. You could find ways to trim the fat from anything you can (dinners out, your wardrobe, maybe a cheaper car), so you’ll have more to pay toward that smothering debt. Determine how much is left over every month once necessities like housing, food, transportation, utilities, etc. are paid for. This is how much is left to pay toward your debts.
Make a list of all your debts. Start with the loan or credit card that has the highest interest rate and work your way down to the one with the lowest interest rate. Don’t pay any attention to which one has the highest balance or the highest minimum payment. The Avalanche Method is all about interest.
Continue to make the minimum payments on all your debts, but put anything you can (including bonuses, tax refunds, that $20 your grandma stuck in your pocket the last time you saw her) toward paying off the high-interest debt at the top of the list.
Once the first debt on your list is paid off, move to the next and throw everything you can at it. When that one is paid off, do the same with the one after that. As you continue paying off bills, you should have more and more money to put toward the next target balance. Keep going until you’ve plowed through each debt on your list and can declare yourself debt-free.
Fans of the Debt Avalanche Method laud its efficiency. The most expensive debt is ditched first, which can be a big money saver. And the amount of time it takes to get out of debt overall is cut too, as long as payments keep being made, because less interest accumulates every month.
Remember: The compound interest (interest on interest) you love as a saver can crush you when you owe money. Although compounding periods vary from daily to monthly to annually, depending on the type of debt, credit card balances are typically compounded daily.
Which means every little purchase you make—and carry over months and years—is probably costing you way more than you want to think about.
And if you start missing payments, the interest rate you’re paying will likely increase, costing you even more. (Check out the minimum payment warning on your monthly statement if you need help keeping yourself in line. Required by the Credit Card Accountability Responsibility and Disclosure (CARD) Act of 2009 , it informs a cardholder just how long it would take to pay off a balance if only the minimum monthly payment is made, as well as how much would need to be paid each month to pay off that balance in three years. The total dollar amount paid in each scenario is also disclosed.)
The Downsides to This Method
Because it tackles interest, using the Avalanche Method to pay off debt can make good sense, but it isn’t necessarily a good fit for everyone.
If we were all were disciplined, analytical thinkers who got excited by the knowledge that we were playing the long game, and we didn’t need the psychological boosts from small wins to stick to a plan, it could work for a wider audience. But consumers are human.
And that’s a drawback for the Avalanche Method. It’s efficient, but it might not provide enough incentives for those who are motivated by feelings as well as logic. Which is why some people prefer the Avalanche’s more emotionally-available little cousin, the Snowball Method.
With the Snowball Method, which has a big fan in financial guru Dave Ramsey, the steps are much the same, but you start your list with the smallest debt and work your way toward the largest, disregarding the interest rate.
The idea is that those first targets can be knocked down quickly, creating a sense of accomplishment that can help keep you on task until it becomes a habit.
“When it all boils down, hope has more to do with this equation than math ever will,” Ramsey states. “The debt snowball works because it’s all about behavior modification, not math.”
Another downside to the Avalanche is that it assumes paying off debt as quickly as possible is always the right thing to do. But there are other factors to consider:
• Besides the psychological boost that might be needed to stay with a plan, there’s the boost to your credit score to think about. If you’re contemplating purchasing a home or car in the near future, or taking out some other kind of loan, it may be worth running the numbers and looking at how your paydown plan will affect your credit utilization ratio and improve your potential to qualify for a lower interest rate.
• Once you reach the breaking point and decide to get rid of your debt, it can be tempting to allocate every extra dollar to getting it done. But first you might consider building an emergency fund as part of your overall plan. Having an emergency fund for unexpected expenses is critical, because it could end up helping you stay on track with your debt payment plan—or keep you from going into even more debt. It might be a good idea to have at least three months worth of living expenses in your fund, but if you’re just starting out, you could try to accumulate as much as you can in an easy-to-access cash management account like SoFi Money®.
To make the Avalanche Method a success, it helps to be the type of person who is self-disciplined, self-motivated, self-aware, and capable of celebrating self-made milestones.
The Avalanche is for rational thinkers. But when it comes to money—and life in general—humans tend to be what behavioral economist and best-selling author Dan Ariely calls “predictably irrational .” His advice:—try to remain aware of our irrationality and find ways to force ourselves to behave better.
How About a Hot New Alternative?
If the Avalanche and Snowball methods leave you cold, maybe you’ll find inspiration in a hot new hybrid.
It’s called the Debt Fireball, and it’s a proprietary SoFi strategy created to help people torch their expensive bad debt and move on to accomplish the things that matter to them faster.
The Fireball blends the best parts of the Avalanche (the cost-savings and faster timeline that generally go with paying off high-interest debt first) and the best parts of the Snowball (the motivation and feeling of achievement that tends to accelerate as you near the finish line). And it adds some flexibility for those who also wish to prioritize saving and investing.
If you decide to use this method, here’s how the Debt Fireball works:
• After making a budget and determining how much money is leftover each month after paying for necessities, prepare to tackle your debts.
• Start by categorizing all your debt as either “good” or “bad.” That doesn’t mean the bills you personally have grown to love or hate. Like the Avalanche, this list is all about interest rate. For this exercise, debts with a less than 7% interest rate are “good.” Debts with a higher than 7% interest rate are “bad.” So, for example, a student loan with a 3% interest rate would be good, while a credit card with a 21% interest rate would be bad.
• Take the list of bad debts and put them in order based on their outstanding balances, from smallest to largest.
• Keep making the minimum monthly payment on all outstanding debts, but funnel any excess funds toward the smallest of the bad debts. For that one, pay the minimum plus whatever extra amount you can.
• When that balance is paid in full, move on to the next smallest bill on the bad-debt list. Keep burning through those balances until all your bad debt is repaid.
• When that’s done, keep paying off your good debt on the normal schedule while you also invest in your future. You could look at putting your money toward a financial goal, such as saving for a house, starting a business, going back to school and/or retirement.
The Fireball is a debt management plan that’s built for real people, not robots. It appeals to a person’s practical side because it prioritizes high-interest debt. It organizes a payoff plan in a logical way and focusing on paying off one debt at a time.
But it also can provide the psychological strokes some of us need to stay interested and dedicated to becoming debt-free. It turns the trek out of debt into a series of short hikes.
No, it isn’t as mathematically efficient as the Avalanche approach. And some might feel as though it downplays the importance of becoming completely debt-free as quickly as possible—so if your passionate about ditching your debt quickly and forever, it might not be for you.
But if you’re interested in a holistic approach to financial wellness, the Fireball could be an appropriate debt management method. And once you’re debt-free, you can use the same concepts—a mix of math (playing it smart) and psychology (knowing what motivates you)—to make decisions about how you’ll continue to manage your money in the future.
It can be tough to not take on some degree of debt as an adult—to help pay for your education or your child’s, maybe for a wedding or a baby, or to buy a home or car. But by having a budget, a solid process for dealing with bills before they get out of hand, and a good handle on the interest rates you pay—you might have a better shot at keeping your finances under control.
Another option for paying down your debt could be a personal loan. SoFi offers personal loans with low rates and no fees. Whether you need to consolidate your credit cards or other high-interest debt, an unsecured personal loan could be a good option for you.
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