Debt Snowball Method

The Debt-Snowball Method is a debt-management strategy aimed at reducing a borrower’s obligations

Borrowers can use this method to slowly eliminate their debt by focusing on their smallest debt balance, followed by larger ones until all obligations are paid off.

Doing so can:

• Substantially reduce debt in the long-term
• Improve credit ratings by making small minimum payments over a long period of time
• Be used to create good payment habits

Debt Snowball Steps

The Debt-Snowball method can be done using the following steps

• Compile a list of all debt obligations incurred to date
• List the debts from the smallest owed to the largest owed
  • The order arrangement of debts depends on the amount (or size) of the debt owed, rather than the actual interest rate
• For each of the debts listed, the best efforts must be made to meet the minimum required payment, regardless of size
• Make an effort to set aside or save extra funds each month
  • These extra funds that must be set aside after making the minimum required payments on all the debts above
• Direct the extra funds saved towards paying off the smallest debt owed
  • Make consistent extra payments, until all the debt is eliminated
  • These are payments in addition to the minimum required amounts
• After eliminating the least owed debt, use the same strategy to eliminate the next smallest debt
  • Use the funds directed towards the minimum required payment of the previous debt, plus any extra funds saved, towards payments on the next smallest debt
• Continue this debt-reduction strategy until eventually all debt is eventually paid off

Rationale

Having a significant amount of debt can be over-whelming and stressful. Having a debt-reduction strategy can help an individual use an effective plan and method to tackle one debt problem at a time.

Some rationales for using the debt-snowball method include

• A simple way of reducing a lot of debt
• By making consistent small payments towards debt, the borrower will feel psychologically motivated to stick with his or her debt-reduction strategy as they see their debt load reduced
• Using this method, all borrowers debts are reduced at a certain portion every period

Disadvantages

Disadvantages include

• The method does not address the loans with the highest interest rate attributed to them. These are the debts that are the costliest since they incur a heavy interest charge.
• Requires that all minimum payments on all debt be made. Therefore, this strategy may not be suitable for low-income earners
• The length of time required to eventually pay off all debt can be significant

Conclusion

The Debt-Snowball method is a debt management and reduction strategy used to help borrowers reduce and eventually eliminating their debt burdens. Its principle rests on paying down one’s debt from the least amount owed to the greatest. While making the minimum required payments on all borrowed amounts, surplus or saved funds are directed towards paying off each debt amount until everything is eventually repaid.

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