In praise of the debt snowball
During my twenties, I accumulated nearly $25,000 in consumer debt. I had a spending problem. With time, I was able to get my spending under control (mostly), but I still owned overwhelming debt. How could I get rid of it?
The personal finance books all suggested the same approach:
- Order your debts from highest interest rate to lowest interest rate.
- Designate a certain amount of money to pay toward debts each month.
- Pay the minimum payment on all debts except the one with the highest interest rate.
- Throw every other penny at the debt with the highest interest rate.
- When that debt is gone, do not alter the monthly amount used to pay debts, but throw all you can at the debt with the next-highest interest rate.
This made perfect sense. By doing this, I would be paying the minimum amount in interest over the long term. The trouble was, my highest-interest rate debt was also my debt with the biggest balance (a fully-maxed $12,000 credit card at 19.8% interest). I’d plug away at this debt for several months at a time, but then give up because it felt like I was never getting anywhere.
This happened over and over. I’d start and fail. Start and fail. Then I read about the Debt Snowball method in Dave Ramsey’s The Total Money Makeover.
How the Debt Snowball Works
The Debt Snowball method is similar to the traditional approach except that instead of attacking high-interest rate debts first, you attack low-balance debts first. Why? Because you’ll get the psychological lift of pinging debts off in rapid succession. And if you’re like me, this makes all the difference. The Debt Snowball approach is:
- Order your debts from lowest balance to highest balance.
- Designate a certain amount of money to pay toward debts each month.
- Pay the minimum payment on all debts except the one with the lowest balance.
- Throw every other penny at the debt with the lowest balance.
- When that debt is gone, do not alter the monthly amount used to pay debts, but throw all you can at the debt with the next-lowest balance.
(For more on this, including some actual figures, see my entry on two approaches to debt elimination.)
When I read about the Debt Snowball method, I was skeptical. I knew it would cost me more in the long run, at least on paper. But I figured I had nothing to lose. I tried it. In four months I’d paid off most of my debts. I was shocked. I’d been trying and failing for years, and now I was able to make a huge dent in just months? It was all because I had changed my approach just slightly.
Why the Debt Snowball Works
Humans are complex psychological creatures. They’re not adding machines. Many of us know what we ought to do but find it difficult to actually make the best choices. If we were adding machines, we wouldn’t accumulate $20,000 in consumer debt in the first place! It’s misguided to tell somebody so deep in debt that they must follow the repayment plan that minimizes interest payments. The important thing to do is to set up a system of positive reinforcement, and that’s exactly what the Debt Snowball method does.
Which method should you choose? Do what works for you. The first method can save you money in the long-run. But if you’ve tried it and failed, give the Debt Snowball method a shot. It might be the answer you’re searching for!
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There are 34 comments to "In praise of the debt snowball".
I’m curious if the authors of either strategy advocate any steps to decrease interest payments. It may be possible to transfer balances from high interest sources to lower ones or to negotiate the rates to something more reasonable. Paying down debt is laudable but one can (and should) do more to minimize interest payments.
I see this as very much a rationality versus practicality thing — rationally you would have been better off attacking your big high-rate debt first, but practically a plan’s only good if you stick to it.
I wonder if there are any tricks to play to make the highest-rate-first plan more psychologically attractive? Maybe comparing the amount of *interest* you pay each month would provide some reinforcement?
(I suspect probably not though: if you’re the type that’s buoyed by a gradually-reducing figure, you’re probably also the type that’ll choose and stick with the highest-rate first plan. If you’re not, it’s hard to argue with the snowball’s “wow, last month I had 5 creditors and now I have only 4” payoffs.)
The greatest single revelation I received from taking Ramsey’s Financial Peace University was that money was primarily an emotional issue, rather than a mathematical one.
If we were robots, the high interest first rule would work like a charm. But since we’re human, we need to see reward for good behavior. I needed to learn this before I could make any concrete progress on paying off my debts.
I used that approach when I got married. We combined all our debt, made the minimum payments and sent extra to the smallest bill. A couple years later we were debt free. Nice and easy to execute.
I’ve always applied a formula to paying off my debt. I take a look at my balance and the interest rate. From there, I try to figure out which one will cost me the most over the life of the loan. Take the following as an example. (I realize it is not even close to being the right formula, but I am in a hurry right now ;-))
$10,000 x 5.99% = $599.00
$3,000 x 19.99% = $599.70
$5,000 x 16.99% = $849.50
In this example, I would pay the $5,000 loan first, because it would cost me the most in interest over time. This is just my personal preference and may not work for anyone else. Use whatever method works best for you… the important thing is you work towards being debt-free.
I find it interesting (psychologically) that you saw paying off all of a $2000 loan to be more “progress” or “reward” than paying off $2000 dollars of a larger loan.
I would track not by the number of loans or even the amount owed, but the total interest your debt is accumulating each month. You can watch this number drop faster when you pay off higher-interest loans first. This way you see more progress (and get bigger mental “rewards”) by following the most rational strategy.
Money is a mental thing. I realized that this past month, in a money crunch; my immediate reaction was to stop buying anything, including food, and stop eating what I had.
Really stupid reaction. But it’s what came out of my brain. So I can see why the satisfaction of paying off debts this way beats the money of paying them off some other way. You’re paying extra to be debt-free, or paying extra to do a little dance every few weeks when one falls down. And probably still eating.
Here are some great Excel files for crunching the numbers… http://www.geocities.com/schizeckinosy/Snowball.html
I used them in my debt evaluation and it turned out that snowballing was the best method for me. I blogged about it if you’d like to read the lengthy version of my findings.
If you really get after it, and cut way back to make as much money as possible available to paying off loans, it won’t matter much which method you choose. Now if you think it will take you 10 years, go with the highest interest model.
I find it interesting that people will knock Ramsey’s debt snowball method. IT WORKS! And it has worked for thousands of people (including me). Like others before me have said, it a psychological thing more than practical. But human nature makes it MORE practical than the other method.
It’s really the “snowball” mentality that makes it work. When you pay off that first “small” debt and then add that money to the minimum you were paying on the SECOND debt plus all the extra you can find it gets you excited about REALLY getting out of debt! In my case, I paid almost $2k on my second debt the first month! Now THAT’S TRACTION!..
The reason the debt snowball based on balances works better than interest rates is because you pay your balances with money not interest rate. You would be better off paying a higher interest rate on a 15 year mortgage than a lower rate on a 30 year. Interest rates are tactics used to get us into debt. That is why debt “con”solidation is not always the best choice. Two questions you should ask before getting financing are, 1. When will I finish paying for this? and 2. How much will it cost me? The interest rate is often used as a distraction.
I can attest to the snowball working like a charm. Since May 2003, my wife & I have paid off $85,000 in consumer debt (credit cards, car loans, student loans, etc) using the debt snowball prescribed here and specifically by Dave Ramsey. We are now debt free except the house and building our emergency fund. Even while doing the snowball, we managed to have a baby and pay close to $4,000 in medical expenses. It was a nice feeling knowing that we had CASH saved up to pay for the pregnancy expenses. My wife has also been able to quit her job as an admin. assistant and become a stay @ home mother. We do all of this on a very middle class salary. This method really works people….
One of my favorite columnists is Michelle Singletary from the WashPost. She is following 4 people to help them attack their debt. The family featured here
http://www.washingtonpost.com/wp-dyn/content/article/2007/08/04/AR2007080400092.html
is doing the snowball method.
A quote from the article (from Sunday’s Washington Post):
Remember, the key to getting out of debt is to tackle the smallest debts first. It may seem more logical to go after the debt with the highest interest rate first. But you can get a nice psychological boost if you can pay off some small debts fast.
“I like the idea of paying the smaller bills first,” Tania Chandler said. “It gives you a sense of accomplishment sooner.”
I understand the psychology behind the snowball, and why it works for most people – but what happens when none of your debts are “small”? If we implemented the snowball, we’d be paying the max on our smallest (and lowest-rate) debt for a year before it was paid off. And the next biggest one is twice as big. So where’s the motivation?
Anitra, I agree. Years ago, as I tried to find low interest rate cards, I found the low rate also had a low credit limit. I’d rather have had 10 cards offering a 10% rate but low limit, than the one card at 24% with a $10K limit. My focus then was 100% based on rates. $100 thrown at the 24% card made me feel better than getting rid of the 10% card with lower balance. I don’t understand the ‘feel good’ of the debt snowball.
Great article J.D. I was a bit upset the first time I heard of the debt snowball that someone hawking financial advice could propose something so flawed and illogical. But now I see the real power of the snowball,which is the psycological boost.
I’m glad to hear it worked out for you, congratulations on becoming debt free, and good luck with the transition to full time writing…
Another approach that has worked for me, is to make a spreadsheet that keep track of all debts. It includes the balance, the interest paid (and some times charges). Each bedt has its own tab. Then by summing up all the fields on single sheet (The totals tab), I see the total reduction of debt (and lowering of interest paid each month). So you will see more results while still paying on the highest interest debt.
A few months ago, I started a similar approach that Mike S mentioned. With it, I can see how much the *total* goes down every month, plus how much less I’m paying towards interest and conversely how much more is going towards the principal. It really is gratifying to watch all of the numbers go in the right directions. It’s especially nice when total owed goes down to the next lower thousand mark. Next month, it should go below the next lower ten-thousand mark!
It does happen that the account with the highest balance also has the highest APR though. The 2nd highest APR has the lowest balance, so I may work on that one for a while and then go back to the highest balance once it’s paid off. After that one, I would be hesitant to focus on all but the highest APR account as all of the others have much lower rates. Other than the psychological boost, is there any other reason to go the snowball route?
Recently, I’ve opened a couple new accounts with lower APRs and have done some balance transfers. My credit rating is in the fair range but rising. How long should I hold off before I apply for any more accounts and/or ask my current creditors for a reduction in my interest rates (although some have been gradually lowering on their own)? Is there a rule of thumb? Or should I wait until my credit score goes up a certain amount?
Ahhh I love reading these forums. My experience with paying off debt began in 2004 and took me until mid 2006 to accomplish, I had 26 creditors and a total of 44,000.00 owed. Some were smaller debts that went away quickly, I opted for the lowest bill going first, rather than by interest rates, although that did cost me more in the long run. I was so happy to see the list being pared down quickly. I learned a couple things at that time in my life, one was that once I paid that bill off, it was gone FOREVER and my phone would ring no more for that one, less mail too!! Another was, it is their money… and they just wanted it back. Thankful I live on the other side of zero today! Good luck to all
You’ve gotta be careful about balance transfers though. Some/Alot of them only offer the 0% APR on transfers for a set period of time, say 12-14 months. If you are confident of paying off the balance in that timeframe, have at it, but if not, I’d recommend just staying with what you have, because opening up a new CC always leads to the temptation to use it. Plus if you don’t pay it off in time, you might have a larger APR than the previous card!
I’m a big proponent of the snowball method. My debt was relatively small when I started out with it almost a year ago, only about 5k on two credit cards. In the span of a year I have worked hard on paying the smaller balance. I will have paid that off as of next month and can then work on my larger balance. The feeling of accomplishment is motivation, but it takes patience and persistence!
It is so true, if we were adding machines then we would rack up debt. However, we are humans driven by emotions, therefore we need to keep our emotions in check in order to successful achieve our financial goals.
I like this strategy
I used this method but never leaned it from anyone. I just figured it out on my own. It is much easier to keep your self focused on paying off debit if you do it. An added thing to do is to try to reduce your interest rates on all your cedit cards as you pay them off. Once you pay off a card ask your credit card company to lower your interest rate or tell them that you will cancel. They will lower your rate. Then you can do a ballance transefer at a lower interest from another card to the one you just paid off. Then ask for it to be lowered in rate. This is a good way to get your interest rates lowered while doing the snowball.
I became debt free using this method. It helps if you have extra money to spend to start the snowball. If you get a pay raise you should use the added money to start your snowball. I got a contract job that paid a lot more than my old job. Then used the added funds each month for the snowball. I quickly got out of debt that way. Make sure to read the credit card fine prints when doing balance transfers.
Good luck.
Wow. Great post, JD. Spoken like someone who has actually been through it. Well done.
We also used Ramsey’s method, and found it to be enormously successful.
The reason the Debt Snowball works is that it fits the psychology of debtors. Many people who get themselves into debt do so by turning off their logical thinking abilities and buy ‘to make themselves feel better’. I’ve seen this in a number of friends. They’re depressed because they are in over their heads, so the go out and buy themselves something, to feel better.
The snowball, though not logical from a pure numbers standpoint, fits the profile of many of those in debt: Do what feels good. They see immediate gratification by sloughing off a whole bill, so they repeat the behavior.
My take… if it works for you, then do it!
I agree with Dave’s Debt snowball theory in toto. I have had similar success with my own debt . I always make it a point to knock off the debt which is lowest in value and then attack the next one.. Leaves you with lesser accounts to follow and worry about,… great strategy
When you’ve got several small debts, the snowball approach makes sense – to give you the psychological boost at each small accomplishment. But, when you have two large loans (a $300k 30-year fixed at 5.22% and a $50k HELOC variable and currently at 2.70%), paying the one with the higher interest rate saves you money. And, since neither one will be paid off anytime soon, there’s no psychological boost coming anytime soon. Should the variable rate exceed the fixed rate, all extra payments go to the variable rate from that point forward. It’s just math – unless you’re going for a psychological boost.
I’ve been working hard for the last year to pay off a credit card that had a no-interest promotional period before that period expires. Once I’ve paid it off, I had already planned to use the funds budgeted each month for that debt and start using it to pay off another credit card, but I hadn’t been able to figure out which one to pay off first (like the author, my inclination was to pay off the highest balance, but that’s so daunting!) I’m going to try attacking the lowest balance first, because (knowing myself!) I’m going to get a crazy sense of satisfaction from paying something off (even if it’s a tiny balance!) which I hope will lead me to continue my debt-attacking efforts. What a great article and tip!
You can get the same emotional benefit by learning how to visualize your money, debt, and interest due. The debt snowball helps encourage irrational behavior instead of teaching people to act in a mathematically sound way.
Long story short: I was looking to list toys on eBay, so I could update my toys to better toys. I have 5 older camera bodies I was going to use to get a newer camera body. Decided to do a google search on the best eBay methods to get the most dollars out of my items. That brought me to your site.
After I read your story about eBay listings, I saw your GET OUT OF DEBT button on the top right of this web site.
I started to read, and it was like I found God, or fell in love, or tasted ice cream for the first time.
I carry about 50,000 in credit card debt and that costs me about 15,000 dollars each and every year in interest.
I make a very good living, (my vocation is in the top ten of wage earners in the world today, higher than an anesthesiologists) but I am always broke maintaining my debt load, looking for more toys.
I have known about Dave Ramsey, but it never clicked for me until I saw your site.
Thank You So Much!
I pealed $1,000 out of my money clip, and it is marked EMERGENCY FUNDS, and I dated it.
The credit cards get cut up as soon as I am near them later tonight, and that smallest credit card, $800, gets paid off first thing tomorrow morning!
I am under way, and I have your site to thank.
I will still sell those camera bodies (and lots of other stuff), but not to purchase more toys, it will be to retire my debt!
Again, THANK YOU!
I have a different, but close to approach.
My problem is that I have a lot of small debts with family and two with banks and overdue bills that just didnt get paid, and a huge chunk of student debt. While the interest rates with my family and friends are 0% they do have a lot of embarasment interest. So here is my approach:
1 call up your family and friends (to whom you owe money) and tell them about what you are doing and ask when they need the money at the latest. (a lot of my friends told me that it wasn’t important that they got the money right now)
2 Prioritize those loans after time and how well of they are. (My dad, and my “rich” grandfather got a low priority and my poor student friends got a high one)
3 give out as much information to your family about when you can pay them back as possible. (If they know when the money is comming they wont be asking)
4 then pay off the high intrest loans first as the books say
This post resonated with me because I had a similar approach to paying down my debt.
About a year ago, I owed two credit card debts totalling around $12,000 and two student loan debts with a total of around $10,000. I was making minimum payments on both. The interest on the credit cards was around 18%, while the student loans were around 7-8%. Logically, I should have paid the high-interest credit cards off first, but I decided instead to put any spare money I had into the student loans. The reason was that the minimum payments were much higher on the student loans. If I paid them off first, I would then have that amount I was currently putting toward student loans available for other things.
This ended up being a good strategy, because I could now make much bigger progress paying down my student loans. I could see the difference each month. I could visualize the exact month when both loans would be paid off, and the money I was currently putting toward the minimum payments would actually be mine to use for savings, for the credit cards, for necessities or just for us each month.
The last payment on the loans was made last month. And yes, the credit cards are still around, but I’m now able to put $5-600/month extra toward them from the minimum payments I used to put on the loans, plus whatever extra comes in from my own after-hours business. I suspect they’ll both be gone within a year.
Sure, I probably paid an extra $1,000 or more in the short-term. But in the long term, *all* my debt will be gone within two years and I now have an emergency kitty of $5-600 each month which I *choose* to put toward credit cards.
I feel like I’m in control of my money now and that I’m capable of thinking about it strategically, setting goals and achieving them. So much of money management is psychological. The first step was getting back the confidence that I could plan well.
I can’t comment on the psychology of those deep in debt, but here’s how I look at credit card debt, and I’m pretty sure it would motivate me to pay it off. I think of paying down a credit card as an investment. It’s an investment with a guaranteed rate of return of whatever your credit card interest rate is, forever. Most likely, this means a guaranteed rate of return of around 20%, which is incredibly better than you can get anywhere else. Paying down credit card debt is pretty close to the best investment in the world.
Start comparing where you are now to where you would have been if you didn’t invest in paying down your credit card debt, rather than comparing how much debt you have now to how much money you want to have, and it becomes more of a “holy crap this is working incredibly well, I’m making so much money” feeling rather than a “I have so far to go and I’m sad and this feels pointless” feeling.
Say your rich friend offers you an investment opportunity which is guaranteed to make you 20% every year for as long as you want. You’d take it, right? And be pretty happy about the money piling up in your account without you having to do any work. If you have credit card debt, that is the investment opportunity you have. Until you’re free of credit card debt, at least. Then you have to settle for 5-10% average returns that vary significantly from year to year, in the stock market.
If you flip the perspective on debt around, investing in the highest return paydown strategy becomes a thing of joy. Instead of a crushing $50,000 in 20% credit card debt, you’ve got an opportunity to improve your financial position by $10,000 per year every year for the rest of your life, equivalent to a $10,000 after-tax raise, just sitting there waiting for you to take it. And you don’t have to take this free money all at once if you can’t afford to because you need food, you can take it piecemeal whenever is convenient for you. But for me at least, I’d look at a $10 lunch out a little differently if I had credit card debt. I’d be thinking “hm… could eat this, or could have some tinned soup and invest $8 of it in paying down the credit card debt, and get $1.60 every year in benefits for the rest of my life.”
If it should happen that you want a treat to motivate yourself, then keep track of how much interest you’re saving, and only buy treats out of the interest you didn’t have to pay. You’re turning the free money the bank gave you for making a smart decision into a purchase that tangibly represents an improvement in your life and still probably ends off with you better than you would have been financially. Want to be able to buy more treats? Make more 20% return investments. Which gives you an incentive to delay gratification.
Another take on my earlier comment:
It seems like the psychology here is rooted around where you stick “0”. If you’re below $0 (in debt) you feel bad, and contemplating going further below 0 makes you feel worse. So… move your psychological 0 point. Make 0 be where you are now, and the 0’s of the future be where you are going (financially) if you do nothing. Bad decisions make things worse than they would otherwise have been, moving you into negative territory, good decisions make things better than they would otherwise have been, moving you into positive territory. Then any changes you make that make things better, are above 0, and you can feel good about them, and any impulse spending to make yourself feel better, actually makes you feel worse because you did a thing that made things worse.
Imagine if your 0 point (the point which defines a stable situation, neither improving nor deteriorating) was “my friends all have a billion dollars and I only have $100,000, and their incomes are in the millions where I make a mere $50,000 per year”. There would seem no way to get where you want to from where you are, and it wouldn’t seem to matter how you spent that $100,000 of savings and $50,000 of income you have, because really $100,000 is pretty close to 0 and everyone is moving away from you faster than you can catch up. But if you redefine what is reasonable based on your actual circumstances and what you have control over, then it feels psychologically rewarding to take actions that improve your situation, and psychologically bad to do things that make your situation worse.
The situation you’re trying to address with the snowball method is “I’m so far from where I want to be that nothing I can do seems to make much difference, so I’m tempted to do things that make my situation worse, and totally unmotivated to do things that make things better, because really none of it seems to matter.”
The problem is you’re measuring success as “percentage of a large amount of debt that I paid down this year, usually not that much no matter what I do”. If you measure success in way that makes the effect of your actions more obvious (“how many dollars better or worse off I am than I would have been if I’d made different decisions”) then you become motivated to make good decisions, without having to engage in mind-games like “it’s OK if I’m not making the logically best decisions, because it feels good and I would be making worse decisions if I didn’t find some way to stop myself”.
The problem is not that humans are not logical computers they are emotional beings and sometimes make stupid decisions and only playing mindgames with themselves will prevent this. Rather, the problem is, what seems motivating depends on how you’re measuring success. Of course if you have a lot of debt and your measure of success (% paid down, number of digits in the amount you owe) doesn’t change much based on your actions, you’re not going to be motivated to do one thing or another. That isn’t illogical or stupid, it’s logical and makes total sense. And the solution isn’t to accept your illogicity and work around it by gaming your internal reward system, it’s to change how you measure success so that your actions make a measurable difference.