Debt snowball vs. avalanche: how to pick a payoff method

If you're paying off several debts, where should the extra money go after you've covered the minimum payments? The debt snowball method puts it toward the debt with the smallest balance. The debt avalanche method puts it toward the debt with the highest interest rate. With either method, once you pay off a debt, you add its monthly payment to the amount you're paying toward the next debt.

We compared both methods using an example household's debts to see how the payment order affects total interest and the time it takes to become debt-free.

Before you pick a method

Cover every minimum payment, then choose an extra amount you can afford to pay each month. Avoid new charges where you can, and keep some savings for unexpected bills so you don't have to put a repair on a credit card.

The debt snowball method

List your debts from the smallest balance to the largest, regardless of interest rate. Make the minimum payment on each debt and put any extra money toward the one with the smallest balance.

You may pay off the first debt within a few months. Having one fewer bill to pay can make it easier to keep going, especially when paying off everything will take years.

You may pay more interest overall, though, if you pay off smaller debts before putting extra money toward a larger debt with a higher rate.

The debt avalanche method

List your debts from the highest interest rate to the lowest. Make the minimum payment on each debt and put any extra money toward the one with the highest rate.

With the same interest rates and total monthly payment, this approach saves the most interest and may help you become debt-free sooner.

If the debt with the highest interest rate also has a large balance, it may take a year or more to pay off. Progress can feel slow when you're still making payments on every account.

Both methods on the same debts

Consider a household with four debts totaling $28,900:

The minimum payments add up to $755 a month. Suppose the household can put $1,155 a month toward debt, or $400 more than the minimums. With the snowball method, they pay off the personal loan first, followed by the Mastercard, the Visa, and the car loan. With the avalanche method, the order is Visa, Mastercard, personal loan, then car loan.

The avalanche method saves the household $513 in interest over two and a half years. With the snowball method, they pay off their first debt a year sooner. Both methods leave them debt-free in month 30, but the final payment is smaller with the avalanche method.

For this household, the amount they pay each month makes a bigger difference than the method they choose:

• Increasing the extra payment. With $800 a month above the minimums instead of $400, the household becomes debt-free in month 21 using the avalanche method and pays $3,183 in interest. That's a saving of $1,663, more than three times the difference between the two methods at $400 extra a month.
• Making no extra payment. Paying only the minimum amounts shown above, the household takes 87 months, or over seven years, to pay off the debts and pays $15,304 in interest.

These figures come from a simple model: each month's interest is calculated using one-twelfth of the annual rate, minimum payments stay the same until a debt is paid off, and there are no new charges. Actual credit card minimums usually decrease as the balance falls, so following those lower minimums would take even longer.

Compare payoff dates and total interest for your own debts with our debt payoff calculator.

Which one should you use?

Researchers at Northwestern's Kellogg School of Management studied about 6,000 people paying off credit card debt through a debt settlement program. Those who paid off individual accounts were more likely to go on to pay off all their debt, regardless of the balances on those accounts.

Your interest rates and past experience paying down debt can help you choose:

• The avalanche method if saving on interest is your priority, especially when one debt has a much higher rate than the others.
• The snowball method if you've tried paying down debt before and struggled to keep going. When interest rates are similar, you may decide that paying off an account sooner is worth the extra interest.
• A combination of the two if one debt is small enough to pay off in a few months: pay it off first, then switch to the avalanche method.

Other ways to reduce interest costs

A balance transfer or a consolidation loan with a lower interest rate may reduce interest costs. Check the fees and the interest rate that will apply after any promotional period ends. Avoid building up new balances on the cards you've paid off, and review your payment order if your rates change.

If you can't cover the minimum payments, a nonprofit credit counselor can help you review your options. You can find an agency at nfcc.org.

Paying off debt as a household

When you share finances, agree on which debts you're paying down together. Some may be joint debts, while others may belong to one person. Decide whether your plan covers all debts or only the shared ones. Then write down the payment order and the amount to pay toward each debt every month so everyone involved can follow the plan.

In Penny, everyone in the household can see the credit cards and loans in the Accounts tab. Check the remaining balances there each month to track your progress and see how those balances affect your household's net worth.

This post is general information, not financial advice for your situation.