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How to reduce debt: 3 pay off strategies to explore

How does being debt-free sound? It's an aspiration worth working for, especially if you feel limited or overwhelmed by the amount and types of debt you've accumulated. Keep reading to learn how you can get organized and tackle your debt, so you can experience the freedom and opportunities that being debt-free can unlock.

3 Ways to Pay Off Your Debt

When you're serious about paying off your debt, start by reviewing your budget. First, make sure you have money saved to cover an unexpected expense. Experts often call this an emergency fund. If you don't have one, add a regular savings deposit to your monthly budget. Next, determine where you can temporarily trim. Cutting back unnecessary expenses will help you increase the maximum amount you can pay toward debt while still covering your fixed costs like housing, utilities and food. Remember that being this disciplined with your spending doesn't have to be forever, and it will be worth it in the end. Finally, do everything possible not to take on more debt as you work to pay down what you already owe.

Once you know the monthly amount you can use toward paying down your debt, write down a list of each type you owe with its balance and interest rate. Make sure to include everything from personal loans, car loans and student loans to medical bills and credit cards. Note that experts don't recommend including your mortgage in this list. Now that you see the big picture of your debt, decide the best way to pay it off. Below are three ways to pay down your debt, each with its own focus to help you stay the course.

Snowball Method for Debt Payment

The gist: Focus on the balances. Pay off your smallest debts one by one, as quickly as possible.
The main goal: Build momentum and stay motivated.
How to do it: Pay the minimum payments on all debt payments while putting as much as possible toward your smallest balance. Once your smallest debt is paid off, start aggressively paying off your next smallest debt.

Here's an example. Let's say your debt looks like this:

  • $20,000 car loan with a 3% interest rate
  • $10,000 on a credit card with a 20% interest rate
  • $6,500 in student loans with a 5% interest rate

You would pay the minimum payments on all three debts every month. But, to get the quickest possible “win," you'd put as much as possible toward paying off your student loans first since that balance is lowest. After that is done, you'd pay down your credit card balance and finally your car loan.
Why some people use this method: The snowball payment method helps people shorten their list of debt payments quickly which can help reduce their feeling of mental overwhelm. Plus, these quick wins can boost your momentum, helping you stay on track to being debt-free.

Potential drawback: If you have debts with widely varying interest rates, and your larger balances come with higher interest, then you may end up paying more in interest over time. Interest builds and, for this reason, it may take longer to pay off your overall debt. That's why the snowball method works best for people who either have a list of debts with similar interest rates or who need the motivation of quick wins to stay focused.

Avalanche Method for Debt Payment

The gist: Focus on your debt that has the highest interest rate, regardless of balance.
The main goal: Pay the least amount possible toward interest.
How to do it: While paying the minimum amount on all debts, pay as much as possible toward the one with the highest interest rate. As each debt gets paid off, move on to the balance with the next highest interest rate, even if it's lower than others.

For comparison's sake, let's use the same example as above. Your debt looks like this:

  • $20,000 car loan with a 3% interest rate
  • $10,000 on a credit card with a 20% interest rate
  • $6,500 in student loans with a 5% interest rate

You would pay the minimum payments on all three debts every month, but put as much as possible toward paying down your credit card first. After that is done, you'd pay off your student loans and finally your car loan.

Why some people use this method: Interest costs money and adds up over time. That's why paying down debt with the highest interest rate first can save you money in the long run. The avalanche method, also known as debt stacking, works well for people who carry debt with widely varying interest rates.

Potential drawback: Some experts argue that people who use this method are more likely to lose motivation and won't stick with it.

Debt Consolidation Method for Debt Payment

The gist: Simplify your debt by combining all types into a single account with just one payment.

How to do it: Consolidate all debt either by securing a personal loan or transferring your balance to a low-interest credit card with a high enough limit to cover your total debt.

Why some people use this method: Debt consolidation can help you maintain focus, lowering your chance of missing payments—one debt, one payment. Depending on your current debts' interest rates, this method also has the potential to reduce your overall cost of interest. It can work well for people who feel overwhelmed by various types of debt, have trouble staying organized, or have several high-interest loans and credit accounts.

Potential drawbacks: You need to shop around for rates and read the fine print to understand if and when interest rates may rise. Plus, all your credit is with one lender, which may give you less flexibility if you need it.

Now that you know three methods for paying off your debt, take another look at your debt types and their interest rates. Consider which method may work best for you based on your money tendencies, goals and types of debt.

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