In our last post we discussed the snowball method of eliminating debt. This method prioritizes paying off your smallest debts first. Then once the smallest debt is eliminated, you take what you were paying on that debt and add it to the payment of your next smallest debt. It is referred to as the snowball method because, like a snowball rolling down a hill becomes bigger, the amount that you pay towards your debts become larger with each eliminated loan.
One of the biggest proponents of the debt snowball is author and financial consultant Dave Ramsey. According to Ramsey, “When you pay off that smallest debt first, you get a taste of victory. And that feeling of success is the momentum you need to tackle the next debt with a vengeance.” The snowball method works because it gives you the hope that paying off debt is possible. And hope is very powerful tool.
Debt Snowball vs. Debt Avalanche
Last post we discussed the criticisms of the snowball method. Because the snowball method has you paying off your smallest debts first regardless of interest rates, you will end up paying more in interest using the snowball method than if you were to use the avalanche method of prioritizing debts by interest rates. Critics will say that the snowball method is fundamentally flawed in this way.
So let’s do an example to see which is better: the debt snowball method or debt avalanche method. Let’s run the numbers to see if (and by how much) the debt avalanche saves you in interest paid and total time to pay back your debt. I’d never seen a breakdown like this before, and I was curious. Let the math begin!
Using Unbury.me I created a debt budget. I decided to simulate a young couple who recently graduated from college (because I have experience with that). The family has two car loans, 2 student loans and some credit card debt. I selected the interest rates and principle amounts specifically so that each method would prioritize paying off the loans in different orders. The calculator has the option to choose between each payment type and also the option to increase your monthly payment. In this case the minimum was $1,775, but you could allocate more money to pay off your debt quicker. I chose to leave it at the minimum because increasing it didn’t affect which option was better.
Let’s Crunch Some Numbers
These loans come out be a total of $65,000 worth of debt which is a pretty hefty sum, but even paying the minimum of $1,775/month it can be eliminated in just a few years. So which option is better?
Using the snowball method of paying off the loans with the lowest principle first, this hypothetical couple will have finished paying off their debt within 43 months. The amount of interest paid on this debt will be $11,555.21. Killing $65,000 of debt in under 4 years is pretty impressive. The reason this is so fast is because for each loan that is paid off all of the money you would normally put towards that loan can be lumped into your payments to the next loan. So how does this compare to the avalanche method?
If we switch over to the avalanche method of prioritizing the highest interest loans, this hypothetical couple will be able to finish paying off their debt within 43 months. Exactly the same amount of time. Well that’s not exactly shouting a clear winner is it? What about interest paid? The avalanche method does pay less in interest over those 43 months. Using this method the couple pays a total of $10,985.44 in interest which is $569.77 less. That’s about $13 a month less.
While not nothing it’s not a smashing victory for the avalanche method. I’ll be honest, I really expected the difference to be a lot more drastic! After all the hate the snowball method receives for wasting your money, you’d think it would be a runaway victory for the avalanche. Seems less like an avalanche and more like a snowdrift to me.
An Unclear Victory
So which one is better? That’s up to the individual to decide. On a purely math basis the debt avalanche is the option that ends up saving the most money. In this case the debt repayment dates were the same. I tried changing the different loan amounts to see if that would result in different repayment dates. It technically did, but I had to make drastic changes to create any big difference. For example if I up the credit card debt (18% APR) from $9,000 to $40,000 (huge) the avalanche method still only pays off the debt 4 months quicker than the snowball method.
[The Debt avalanche method] might sound like smart math. Here’s why it’s not: Debt isn’t a math problem. It’s a behavior problem.
Dave Ramsey
So if you’re a purely mathematical person who doesn’t insert emotion into their rationale, the debt avalanche may be your better option. But if you operate purely based on math, you probably aren’t in debt. Or at least not that much. That’s probably why Dave Ramsey says that “Debt isn’t a math problem. It’s a behavior problem.” The reason people get into debt they can’t control is because they aren’t being objective and rational.
This is why the snowball method has worked for so many people. Because paying off those small debts first give you that feeling of accomplishment that gives you the motivation to pursue your larger debts and as Dave said, “Motivation is the key to becoming debt-free, not math.”
Conclusion
We have friends who have used the snowball method with a lot of success, and the story is the same every time. “We didn’t think we could do it. Our debt was so daunting! And then bam! First debt completely gone. It was like we could suddenly breathe again.” Don’t underestimate how much of a head game paying off debt can be. You can choose whatever debt repayment method you like, but whatever you choose, start now! The sooner you start, the sooner you can be to a more Financially Independent place. And remember, it’s OK for it to be a slow burn.
What do you think? Were you surprised by my results? Do you see any flaws in my math? Impossible, I know! Let us know in the comments below.