People usually want a plan in order to pay off significant debt. What’s the fastest, best way to get out of debt?
That’s what a listener of the Clark Howard Podcast recently asked.
The Best Way To Get Out of Debt
I need to get out of debt. What’s the fastest and best way to do that?
That’s what a listener asked on the May 19 podcast episode.
Asked Denise in Oklahoma: “What’s the best way to get out of debt faster? I have $18,000 in debt. Is it better to use a balance transfer for lower interest on the payments? Or should I use the snowball method and suck it up for the dumb mistakes that got me into debt?”
You can get too caught up on which debt method to use. And there is strategy involved. But the most important thing is determination and a will to pay off that debt.
“Please, Denise, do not pick on yourself because you got into debt. Pretty much everybody’s been there at some point in their lives. The great thing is you’re determined to get out of debt,” Clark says.
“Obviously your head and your heart are about getting out of this debt and I’m sure you’re going to get it done. And I want to hear from you when you’ve paid off the last penny of this $18,000.”
The Snowball Method: Who Should Use It?
What is the snowball method of paying off debt?
Think about rolling a snowball downhill. As it gathers more snow, it grows. At the same time, it tends to go faster the longer it’s going downhill.
The same idea applies to this method of paying off debt. Let’s say you have six different credit accounts. Pick the loan with the lowest balance. It’s the one that you’re going to be able to pay off the fastest.
Pay only the minimums on the other accounts. When your accounts go from six to five, and from five to four, you’ll gain confidence and feel a sense of relief. This can motivate you to keep going.
“It goes back to behavioral economics,” Clark says. “The idea being that people feel overwhelmed by debts and [if you pay down an account] you really feel the progress.”
The Avalanche Method: Follow the Math
The math says that you should use what some people call the avalanche method. (Why debt and snowpack are so inextricably linked I have no idea.)
With this method, you focus on the debt with the highest interest rate. Pay the minimums on everything else and attack that debt first. It’s often high-interest credit card debt, which carries lower rates than things like personal loans and auto loans.
The highest-interest account is hammering your net worth the most on a monthly basis. So taking a sledgehammer to that debt first can go a long way toward improving your finances.
“Your dollars have the greatest impact when you’re paying extra against the one with the highest interest rate,” Clark says.
The Secret Weapon to Blasting Away Your Debt Fast
Credit card companies and other lenders are shuddering when they reach this point in the story. None of them want you to uncover this secret weapon that can help you annihilate your debt.
What’s this ace in the hole? Balance transfers.
“Whatever debt you have that’s high interest, if you can balance transfer it into one with a low-interest rate, you’ve got a target period of typically 18 months at that low rate to get that balance wiped out,” Clark says. “That is part of the strategy of paying off your debt is great.”
For example, let’s say you have $10,000 of debt on two high-interest credit cards at an average interest rate of 25%. There may be another credit card offering you an introductory rate of 5% APY for the first 18 months.
If you transfer your balances there, you’ll have a period of time where you’ve slashed your interest rate by 20%. Plus, you may feel some accountability since you’re now on the lock.
“There’s a real advantage because every dollar you’re paying toward it, you have much more going toward principle than interest,” Clark says.
Final Thoughts
Whether you need the psychological boost of making early progress (the snowball method) or you want to take a mathematical approach (the avalanche approach), making a plan and sticking to it will get you to where you want to go.
Your secret ace in the hole may be a balance transfer that can slash your interest rate down to almost nothing in the intermediate term. That will give you a window where almost all your money is paying down the principle rather than servicing your interest. If you choose this method, make sure you find the best balance transfer credit card.
Paying off debt, in general, speaks to Clark’s central philosophy. Because you have to live on less money than you make. If you take getting out of debt seriously, you can build great financial habits that will set a great foundation for life after debt.
