Mar 28, 2019
This week, we’re talking about the importance of unloading your debt before you transition into retirement.
Yesterday, I talked about the easy first step of eradicating debt from your life - just taking inventory. I had you list all of your debts, the amount owed and the interest rate on each debt.
Knowledge is power, so we have to start by knowing where we stand today.
Now that you hopefully have your debt inventory list, let’s look today at 2 very popular debt reduction strategies - the debt snowball and the debt avalanche.
In the debt snowball method, you to list your debts, smallest to largest, and start knocking out the smallest debt first. And then move on to the next smallest, knock that out, and continue down that path until all of your debts are wiped out. It’s a snowball, because the snowball starts small, but grows over time.
The debt avalanche method, on the other hand, lists all of your debts, from highest interest rate to lowest interest rate, and you start by knocking out the highest interest rate debt first. And then you move on to the next highest interest rate debt, and continue until all your debt is gone.
An avalanche to rid yourself of debt sounds better than a snowball, right? But personally, I nearly always recommend the debt snowball method to clients. A lot of people might disagree with me, since financially it’s usually better to tackle this highest interest rate debt first. In many cases, you’ll pay less in interest over the years with the avalanche method.
Imagine that you have a $10,000 credit card debt debt at 24%. That’s your highest interest rate debt, so if you pick the debt avalanche, you’ll pay that one off first. But how are you going to feel in 9 months when you’re still slogging away, paying off that first debt. You’re making progress, but it’s been 9 months and you’re still paying off that first debt. It’s harder to keep going when it doesn’t feel like you’re winning.
But let’s say you pick the debt snowball instead, and you have a $250 balance on your Macy’s card, and a $1200 medical bill to pay off. Those are your smallest debts. The first one you knock out within a month and the other one only takes you 2-3 months.
Ching ching ching! The quicker wins and the accomplishment from paying off 2 of your debts gives you the motivation to keep going once you get to the bigger debts. Your confidence grows because you’ve made progress and achieved some success. So we need the gratifying rewards that come with making progress quickly.
From here, you now have a path to follow to reduce your debt, but also make sure that your chosen path is going to motivate you to see this through to the end.
That’s it for today. Thanks for listening!
My name is Ashley Micciche and this is the One Minute Retirement Tip.
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Tags: retirement, investing, money, finance, financial planning, retirement planning, saving money, personal finance, wealth management, rachel cruze, getting out of debt, debt snowball, debt avalanche, amortization, amortization schedule, debt free, debt free living, debt free calculator, debt in retirement, dave ramsey, total money makeover