Before you reach the precipice and you feel your debts are about to create a financial avalanche, start managing a plan to pay off credit card debt. Before starting any credit card reduction program, identify areas where you can cut down your expenses, including fancy lunches on your Visa or spontaneous shopping sprees with your AmEx. Paying beyond the minimum due on a credit card is the second step in paying down credit card debt. But which credit card do you pay off first?
The Debt Snowball
Personal finance author and radio personality Dave Ramsey proposes that consumers can pay down their debt by paying off the credit cards with the smallest balances first, and bravely work up to the larger balances. For example, a family might have cut back on expenses to find an extra $300 per month they can apply to paying down credit card debt.
If they take that $300 and put it towards their Discover card, which has a balance of $900, they can pay off that card in three months. Under the Debt Snowball method, they would then take that $300 and find more money (or take on a second job) and pay off the card with the next highest balance. For example, their next payment would go to their Visa card with a $9,000 balance. They would pay $300 plus whatever other money they could come up with or make. When that is paid off, they would move to the card with the next highest balance.
Feels Good
By choosing the smallest balance first, the pay-off comes quickly, which can boost the esteem of anyone feeling down-trodden by existing debts. While this coddling approach may be attractive on some levels, it may not be the best idea if it leaves you with credit cards with high interest rates that are accumulating faster than you’re paying off the smaller debts.
Unrealistic Goals
One of the main sticking points with the Debt Snowball is that the process assumes that as the credit card debt is paid down, the credit card holders can continue to find or make more money to add to the next level of payments. For some singles, couples and families there may be no more money to “find” by cutting their expenses after the first round of expense cuts to find the first $300. They may also have familial or other work obligations that keep them from taking on second and third jobs.
If the credit card holders have squeezed all they can out of their monthly income and can only pay off $300 a month, starting with the lowest credit card balance may end up costing them. While they are paying down their smaller credit card debts, the higher interest rate card balances continue to compound.
Interest First
Rather than organizing your credit card bills from lowest balance to highest balance and then factoring in high to low interest rates, try scheduling pay-offs starting with the credit card with the highest interest rate, regardless of the balance.
For a real picture of how long it will take you to pay off credit card debt, use a credit card calculator by inputting the balance, interest rate and payment amount.
Paying down your own debt could benefit more by paying the higher rate cards off first, while still paying the minimum due on all other credit cards. Depending on the number of credit cards you have, the current balances and interest rates, Dave Ramsey’s approach may garner you close to the same results as paying down the high interest credit cards first. However, if you take on Dave Ramsey’s approach, it could take you longer to pay off your credit card debts, and you could end up paying more due to the accumulating interest.
