Tweet
By Scott Bilker
David Sheepsley has two credit cards with balances. Card A has a balance of $8,000 at 19.8% and minimum payments of $160 per month. Card B has a balance of $6,000 at 5.9% with minimum payments of $120 per month. David has a total of $400 per month to use for repaying his credit cards. What's the better plan for David?
1) Pay the most money possible per month to the lowest-balance card (B) first and make minimum payments to the highest-balance card (A) until the lower-balance card (B) is paid off. Then send the entire payment of $400 to Card A until that debt-repayment is completed.
2) Do the reverse. Pay the most money possible per month to Card A and make minimum payments to Card B until Card A is paid off. Then send the entire payment of $400 to Card B until that debt-repayment is completed.
<script type="text/javascript">google_ad_client = "pub-8949118578199171";google_ad_width = 728;google_ad_height = 90;google_ad_format = "728x90_as";google_ad_channel ="";google_color_border = "EAEAEA";google_color_bg = "EAEAEA";google_color_link = "4271B5";google_color_url = "99CC66";google_color_text = "000000";</script>
<center><script type="text/javascript"src="http://pagead2.googlesyndication.com/pagead/show_ads.js"></script></center>
<b>Solution</b>
Paying the lowest-balance first is sometimes called a "Debt Snowball." The problem is that you're rolling the snowball uphill! Here is the quote directly from those who propose this foolish plan, "DEBT SNOWBALL: List your debts in descending order with the smallest payoff or balance first. Do not be concerned with interest rates or terms..."
Many so-called "experts" suggest this ridiculous plan for paying the lowest-balance card off first for psychological reasons, claiming it gives you quicker feedback and allows you to be more likely to stick to the plan."
That strategy is simply wrong! That is, unless you like paying extra money to your creditors.
Here's why:
<b>Debt Snowball Plan: Pay The Lowest Balance First</b>
Card A: $8,000 at 19.8% at $160 per month Card B: $6,000 at 5.9% at $240 per month Total payments equal $400 per month
Card B is paid off in 26.74 months. At that point in time, Card A has a balance of $7,068 to which we start applying payments of $400.
Card A is paid off in another 21.06 months.
Total payoff time is 26.74+21.06=47.80 month
Total payoff cost=47.80 x $400=$19,120
That's $19,120 out-of-pocket cost for the Debt Snowball.
<b>Pay The Highest Interest Rate First</b>
Card A: $8,000 at 19.8% at $280 per month Card B: $6,000 at 5.9% at $120 per month Total payments equal $400 per month
Card A is paid off in 38.96 months. At that point in time Card B has a balance of $2,124 to which we start applying payments of $400.
Card B is paid off in another 5.39 months.
Total payoff time is 38.96+5.39=44.35 months
Total payoff cost=44.35 x $400=$17,740
That's $17,740 out-of-pocket cost paying the highest interest card first.
<b>Conclusion</b>
"Debt Snowball" costs $19,120 "Pay highest rates first" costs $17,740
Additional cost for the Debt Snowball is $19,120-$17,740=$1,380 (because it takes over three months longer to repay the debt using this method).
That's $1,380 more to follow that "expert" advice of paying the lowest balance first. Don't do it! Pay the highest interest rate cards first, no matter their balance! That's being DebtSmart!
If anyone needs psychological reassurance, they'd still be better off paying the highest rates back first because they would have and extra $1,380 to spend on a psychologist!
************************
Scott Bilker is the founder of <a href="http://www.DebtSmart.com">DebtSmart.com</a> and the author of Talk Your Way Out of Credit Card Debt, Credit Card and Debt Management, and How to be more Credit Card and Debt Smart.
David Sheepsley has two credit cards with balances. Card A has a balance of $8,000 at 19.8% and minimum payments of $160 per month. Card B has a balance of $6,000 at 5.9% with minimum payments of $120 per month. David has a total of $400 per month to use for repaying his credit cards. What's the better plan for David?
1) Pay the most money possible per month to the lowest-balance card (B) first and make minimum payments to the highest-balance card (A) until the lower-balance card (B) is paid off. Then send the entire payment of $400 to Card A until that debt-repayment is completed.
2) Do the reverse. Pay the most money possible per month to Card A and make minimum payments to Card B until Card A is paid off. Then send the entire payment of $400 to Card B until that debt-repayment is completed.
<script type="text/javascript">google_ad_client = "pub-8949118578199171";google_ad_width = 728;google_ad_height = 90;google_ad_format = "728x90_as";google_ad_channel ="";google_color_border = "EAEAEA";google_color_bg = "EAEAEA";google_color_link = "4271B5";google_color_url = "99CC66";google_color_text = "000000";</script>
<center><script type="text/javascript"src="http://pagead2.googlesyndication.com/pagead/show_ads.js"></script></center>
<b>Solution</b>
Paying the lowest-balance first is sometimes called a "Debt Snowball." The problem is that you're rolling the snowball uphill! Here is the quote directly from those who propose this foolish plan, "DEBT SNOWBALL: List your debts in descending order with the smallest payoff or balance first. Do not be concerned with interest rates or terms..."
Many so-called "experts" suggest this ridiculous plan for paying the lowest-balance card off first for psychological reasons, claiming it gives you quicker feedback and allows you to be more likely to stick to the plan."
That strategy is simply wrong! That is, unless you like paying extra money to your creditors.
Here's why:
<b>Debt Snowball Plan: Pay The Lowest Balance First</b>
Card A: $8,000 at 19.8% at $160 per month Card B: $6,000 at 5.9% at $240 per month Total payments equal $400 per month
Card B is paid off in 26.74 months. At that point in time, Card A has a balance of $7,068 to which we start applying payments of $400.
Card A is paid off in another 21.06 months.
Total payoff time is 26.74+21.06=47.80 month
Total payoff cost=47.80 x $400=$19,120
That's $19,120 out-of-pocket cost for the Debt Snowball.
<b>Pay The Highest Interest Rate First</b>
Card A: $8,000 at 19.8% at $280 per month Card B: $6,000 at 5.9% at $120 per month Total payments equal $400 per month
Card A is paid off in 38.96 months. At that point in time Card B has a balance of $2,124 to which we start applying payments of $400.
Card B is paid off in another 5.39 months.
Total payoff time is 38.96+5.39=44.35 months
Total payoff cost=44.35 x $400=$17,740
That's $17,740 out-of-pocket cost paying the highest interest card first.
<b>Conclusion</b>
"Debt Snowball" costs $19,120 "Pay highest rates first" costs $17,740
Additional cost for the Debt Snowball is $19,120-$17,740=$1,380 (because it takes over three months longer to repay the debt using this method).
That's $1,380 more to follow that "expert" advice of paying the lowest balance first. Don't do it! Pay the highest interest rate cards first, no matter their balance! That's being DebtSmart!
If anyone needs psychological reassurance, they'd still be better off paying the highest rates back first because they would have and extra $1,380 to spend on a psychologist!
************************
Scott Bilker is the founder of <a href="http://www.DebtSmart.com">DebtSmart.com</a> and the author of Talk Your Way Out of Credit Card Debt, Credit Card and Debt Management, and How to be more Credit Card and Debt Smart.
.)
Comment