The Debt Avalanche is another popular debt repayment method which focuses on paying off debts in a calculated manner by focusing on how much interest you pay. Unlike the Debt Snowball method, you pay off debts based on the interest rate.
When I was in over $75,000 of debt, the debt avalanche is what I used to get out. It takes emotion and psychology out of the equation and just focuses on math. This method will not work for everyone. Using this method ending up saving me nearly $6,000 in interest payments based on paying down debts over four years.
The general idea of the Debt Avalanche is to focus on the math over the course of your debt repayment.
List Your Debts by Interest Rate from Largest to Smallest
Using a spreadsheet or piece of paper, write down all of your debts in order of the interest rate you pay from highest to lowest. Do not pay attention to the balance owed on the debts. Only the interest rate.
Here is an example of some debts listed using the Debt Avalanche method.
|Debts listed by interest rate||Minimum monthly payment|
|Credit Card 2 – 22.50% ($1,500 balance)||$60|
|Credit Card 3 – 19.25% ($3,000 balance)||$100|
|Credit Card 1 – 16.75% ($750 balance)||$45|
|Car Loan – 4.2% (22,000 balance)||$625|
Pay Minimum Payments on All Debts
This is important. No matter what you do, you HAVE to pay the minimum payments on all your debts. This is important as it ensures you do not go into collections or charged fees by your bank.
You will end up paying more money on top of the first debt listed in the example above (credit card 2).
Pay More Money Toward the Highest Interest Debt
After making sure you pay the minimum monthly payments on all your debt, you will focus on paying down the first debt listed to get rid of it as quickly as possible. Depending on the balance owed, this could take a while, but it could save you a lot of money over the course of paying down the debt.
If you can add an extra $50-$100 to that first debt per month, it will go right do the balance. You will consistently pay more on the first debt until it’s paid off.
Combine First Debt Payments to Next Debt
Once you pay off the first (and highest interest rate), you will take all the money you paid toward that debt (minimum and extra) and add that as an extra payment on top of the second debt.
In the example table above, if you were paying an extra $100/month on top of the minimum monthly payment ($60), then you would pay $160 extra per month on top of the minimum payment of the second debt (credit card 3 in example above)
If the extra you’ve paid on your debt was not the same each month, you will at least want to pay the minimum payment you had on the first debt as an extra on the second.
Keep Paying Extra and Adding in Previous Debt Payments
As you keep paying down debts in your list, you will add in the previous debt payments and the extra you paid each month to wipe our the debts.
If you go through the example above and are paying on the last debt listed (car payment), you’d be paying an extra $305 on top of the minimum payment for the car loan. This includes the minimum payments for the previous three debts and the extra you were adding ($100).
The goal of this is to not only pay down your debts, but also save you the most money in the form of high interest payments.
This method can be hard for some due to the long path of payments depending on how your debts are setup. If you are an emotional person and need to see quick wins, the debt avalanche might not be the best fit. You’d probably try the Debt Snowball.
If you want to save more money and wipe out those high interest debts, then the Debt Avalanche can be a great method.
Either way, just do something. Just pay off your debt!