How the Scary-Sounding “Debt Avalanche” Could Lift You Out of Debt
If you feel like you’re buried in debt, then the term “debt avalanche” might seem an apt metaphor for your woes. But in fact, this “avalanche” could actually be the solution to your problems, allowing you to not only save money on interest, but help you get out of debt faster.
What Is the Debt Avalanche?
The debt avalanche is a popular repayment strategy in which a borrower works toward paying off high-interest debt first, while making minimum payments on other loans.
This idea is to target high-interest debt that is likely costing you the most money in interest payments.
Growing interest can make it tough to climb out of debt, so zeroing in on this debt can help tackle this issue and make real progress.
How the Debt Avalanche Works
If you’re in debt, you might have multiple loans at various balances and various interest rates. Under the debt avalanche method, you’ll pay the minimum on all your debts and allocate any additional funds to the highest interest debt first.
Let’s say you have:
- $23,000 in student loans at 4.29 percent
- $3,000 in credit card debt at 15.59 percent
- $12,000 car loan at 3.5 percent
Using the debt avalanche, you’d make the minimum monthly payments on your student and car loans, and put all extra money toward the loan with the highest interest — in this case, your credit card debt.
So let’s say that your total minimum payments equal $600 per month.
But after looking at your budget and cutting your expenses, you realize can free up an additional $150 per month, allowing you to put a total of $750 per month toward your debt. Under this method, you’d apply the extra $150 toward your credit card debt each month, chipping away at it until the debt is paid in full.
Once that is paid in full, you’d put the extra money toward the next highest interest rate, which would be your student loans. When that is paid off, you’d then allocate all additional funds toward the car loan.
Under the debt avalanche method, the balance is irrelevant and your focus is solely on attacking high interest debt. Focusing on high interest debt first and putting extra money toward those loans helps minimize interest over time, which helps you pay off more of the principal balance.
The debt avalanche method is the most cost-effective debt repayment strategy, resulting in less interest and faster repayment. The other option is the debt snowball method, which focuses on the smallest balance first, regardless of the interest rates. This method is often good for motivation — it feels good to wipe out one of your debts entirely — but may result in paying more interest over time.
How to Get Started With the Debt Avalanche Method
Ready to get started with the debt avalanche and ditch your debt? First, list out all your loans, loan balances and interest rates. Next to that, include your minimum payment. Like so:
Loan #1: Total Interest rate Minimum payment
Loan #2: Total Interest rate Minimum payment
Loan #3: Total Interest rate Minimum payment
Add up all of your minimum payments. Then, look at your budget and see where you can cut back or decrease spending. How much can you reasonably afford to put toward debt? It doesn’t matter if it’s only $10 more or a $100 more. The key is to pay more than the minimum toward your debt.
Once you’ve calculated how much more you can put toward debt, circle the loan with the highest interest debt. When it’s time to make your monthly payments, pay the minimum on your other loans, while putting your extra money toward the highest interest loan.
Continue to do this until it’s paid off, then focus on the next highest interest loan. You will continue this process until you go from high interest to low interest (the metaphor of the avalanche starting at the top and coming down) and all of your debt is paid off.
Rest assured that this method will help save you money on interest and can help you pay off debt faster. It might not offer the motivation that the debt snowball does, but the math can work in your favor.