7 Things to Know for Clearing Your Debts Quickly
Vol 13 | Issue 39
So you have some debt. It is not the end of the world – personal debt, credit card debt, and even loans on consumer goods have all been increasing with the increasing inflation.
However, now that you have it, it is important to accept the fact and pay it off as soon as may be possible for you. Fortunately, there is a nifty method that will help you pay all your debts off much quicker than you can imagine!
Here are 7 things you must know about this magical method – the debt snowball:
|Pay off your smallest debt first, that's the first principle of the debt snowball method (Photo: iStock.com/ Prostock Studio - Photos for representational purpose only)|
1. It prioritizes the smallest debt
Unlike other debt payoff methods, the debt snowball asks you to pay off your smallest debt first. This is even if your smallest debt is nothing but a friendly loan from your brother with no strings – or interest – attached.
This may seem counter-intuitive, after all, why bother paying off something that is not costing you any money?
But debt payoff is about more than just the money, it also comes down to how motivated you feel to continue paying off. This is where paying the smallest debt first helps, by giving you quick wins right when you’re starting out.
2. You only pay the minimum amount on all other debts
Instead of splitting your money between various debts and not making a dent in any, the debt snowball asks you to have a laser focus on just one debt – the smallest one.
All the remaining debts get just the bare minimum attention, since you are supposed to pay only what is the smallest amount of money you can get away with legally. This helps to channel your limited resources into knocking off entire debts quickly.
|The debt snowball asks you to have a laser focus on just one debt – the smallest one (Photo: iStock.com/ Deepak Sethi)|
3. You put all your surplus towards one debt
Because you only pay the minimum on all other debts, you will have some surplus amount from what you no longer pay on them. You can also squeeze your budget or come up with some extra sources of income to bump up your surplus.
Each month, every last paisa of this surplus will go towards your smallest debt. This will ensure that within a few months, an entire debt will get knocked off your plate.
4. Your surplus goes on increasing with no help on your part
This is where the magic of the debt snowball comes in; the snowball effect. Once you have paid off your smallest debt, you will be left with a surplus that is automatically higher than what you began with, since you have one less debt to pay off.
For example, if the minimum payments on two of your debts are Rs.1000/- and Rs.1500/-, and you have a total surplus (after minimum payments) of Rs.5000/- per month, you would pay Rs.6000/- towards the first debt and Rs.1500/- (minimum) towards the second debt.
When the first debt gets paid off, you will be able to put the entire Rs.7500/- towards the second debt. This is because you no longer have the Rs.1000/- minimum payment on the first debt! This amount will go on increasing as you pay off debts one by one.
|By continuing to slowly clearing your debts, you reach your goal slow and steady (Photo: iStock.com/ Triloks)|
5. Slow and steady wins the race
The debt snowball is actually not the fastest method to pay off debt. That honour goes to the debt avalanche method, which prioritizes the highest interest rate debt over the smallest debt (We will discuss this in the next article).
Then why should one prefer the debt snowball? Because paying off debt can be a long and arduous journey of downsizing your life and putting all resources towards your debt.
Wins along the way can mean the difference between sticking to your path or falling off the wagon. While the debt avalanche might save you money in the long run, you run the risk of never paying off your debts at all.
6. Small wins along the way keeps you motivated
Though in purely mathematical terms, the debt avalanche method is superior, research indicates that the consumers will get out of debt quicker by paying down accounts one at a time starting with the smallest – meaning that, in real life, the debt snowball can be the more effective method.
If you are that superhuman who can stay motivated in the absence of any external validation, the avalanche will work for you. For the rest of us mere mortals, snowball is the way to go.
|The reward for a disciplined pay-back routine is a debt free happy life (Photo: iStock.com/ Szefei)|
7. Pay debt, eat, sleep, repeat
The debt snowball depends on you using the money freed up from your smallest debts, to pay off the next smallest ones. The rest is simply a matter of consistency.
Redirect the entire surplus towards the next debt in line, and watch as the numbers accelerate towards zero. You also need to find other methods to increase the surplus, but as you see the numbers ticking down, motivation will not be in short supply!
All debt payoff methods depend on some degree of pulling in your belt and being consistent. But the debt snowball rewards you every so often for doing so, which can make the journey a lot easier and much more pleasant than it sounds! - ©TWL
Priyanka Mashelkar is Dy. Commissioner of Income Tax and Author, 15 Sure-shot ways to Hit the Jackpot