4 Strategies to Pay Off Debt

Apr 7, 2022

5

min read

D

ebt is like a pitfall; it's easy to get into debt but harder to get out of it. It takes a lot of commitment and discipline to pay off the debt.

Paying off debt is very important since being in debt means robbing the future cash flows. This means you are stuck in past payments and cannot move forward in your financial life.

But the good news is that you don't have to be stuck making payments for your past any longer. Here are four proven strategies to pay off your debt:

Debt Snowball Strategy

The debt snowball strategy is where you pay off the smallest debt first and pay the most extensive and most expensive debt later.

The method works the best to pay off debt faster as you would feel the sense of achievement after paying off the smallest debt and would encourage you to pay more significant debts.

Thus, you would make the largest payment possible on your smallest debt while paying minimum payments on the rest.

Once the smallest debt is repaid, you can apply its payment to the next smallest debt and repeat the process until all the debts are repaid.

For instance, you are $ 16,100 in debt and have several debt payments to be made.

Since you have to make minimum repayments to all your debt, you must pay $825 every month. Instead of paying minimum repayments every month, you should now aim to get rid of the smallest debt first.

The smallest debt here is $100 debt from the target. You are paying $25 a month as repayments. Instead of just making repayments, you should now aim to get rid of that debt. For that, you need to manage an extra $75.

You can cut off your extra expenses for the additional payments. After you pay off the debt, you don't need to pay $100 debt anymore. Now, use that money to pay off your second smallest debt. Repeat the process until all the debts are paid.

Debt Avalanche Strategy

The debt avalanche strategy is where you pay off the highest interest debt balance first. Doing so helps you get rid of the expensive debt first such that you have saved money to pay off other debts.

The strategy works the best as you are saving the interest to pay off the debt you would have to pay.

For instance, you have 55K in debt, and there are several debts you must pay.

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Here, you have different debts, and each debt has different interest rates. Generally, short-term loans have the highest interest rate, including your credit card. The idea is to pay off your credit card bill first, as it is the most expensive debt.

After you have paid the most expensive debt after making the additional payments, you would now save the interest amount you should have to pay otherwise. Now, use that money to pay off other debts as well.

Debt Consolidation Strategy

Debt consolidation means taking a new loan at a lower rate to pay off all the debts. It combines more than one debt into a single debt. Debt consolidation is the best way to pay off debt faster as you pay one debt, not multiple debts.

If you can take out a new loan at a comparatively lower price than your current loan, it's best to refinance your debt and adopt a debt consolidation strategy. This helps you save your interest money to pay off the debt faster.

Suppose you have a mortgage loan of 4.8 %, and you can now take out the mortgage loan for 4 %. Then you can refinance your loan to take a new loan at 4 % and pay off the loan with an interest rate of 4.8 %.

You will save the interest rate by switching to a lower-rate mortgage. The saved interest can be used to repay the debt.

For instance, if you have 500 K, with the 4.8 %, you would have to pay an annual interest of 24,000. After switching to a 4% loan, you will have to pay a yearly interest of 20,000.

As a result, you will save 4,000, which you can use to pay off the debt.

Debt Management Plan Strategy

A debt management plan strategy is to sign an agreement with the creditors that you will pay back the non-priority debt by one fixed monthly payment divided between your creditors.

Non-priority debt is less urgent and does not cause severe consequences if you miss repayments, whereas priority debt is urgent and will result in severe consequences if not paid in time.

For instance, if you do not pay the electricity bill on time, there is a high chance that the power company will turn the electricity off. Thus, it is a high-priority debt.

The debt management plan strategy is used when you struggle to pay your debt. By paying off the priority debt faster, you can slowly pay off the non-priority debts.

For instance, you have $2 K monthly repayments to make, but you have only a 1.5 K budget which you can use to pay off the repayments.

Of course, the high-priority debt would be paying off the electricity, income tax, and rent. Other debts such as student loans and bank loans can be paid later. But, for this strategy to work, your creditor must agree to the plan.

Conclusion

It requires discipline and plans to pay off the debt. The most important strategy to pay off debt is to save money. Most people tend to spend more than they afford, which increases their debt. Thus, it's better first to pay off the debt and then spend the money on the extra expenses.

Debt is the obligation to pay others. So, it's better to pay off a debt to live a debt-free life through the given strategies. But, these strategies will only work if you are committed to paying off your debt.