Isn’t it ironic that while I’m in the middle of writing a series about good credit card use vs. bad credit card use, to be concluded later today, I came across the ninth rule for building wealth from Fortune Magazine: ditch credit card debt.
Fortune is talking about the Type A credit card user, who has acquired debt over time, possibly acquiring more each month. If the user is psychologically and financially ready to reduce the debt efficiently, the magazine suggests the interest rate variant of the Debt Snowball method.
All debt is not created equal, so rank yours by interest rate and pay off the bad stuff first. That usually means credit cards, which can carry interest rates as high as 30 percent… On the other end of the scale are student loans… Those rates are generally between 3 and 6 percent, so consider making the minimum payment and investing in your 401(k) instead.
Here’s an example of a someone’s debt combination.
To pay this debt efficiently, resulting in the least amount of interest payments possible without incurring late fees, our friend would pay the minimum amount on all accounts and any extra left over money can be paid towards the account with the highest interest rate until it has disappeared. Let’s say his financial situation will allow him to commit a total of $750 towards all debt each month.
To perform the calculations, use a debt snowball calculator. The results show us how to apply the payments starting with January 2007, with all debt being completely paid off by May 2011, assuming no added charges. The payment chart is large, so continue reading to see the rest.
The snowball method may not the best for everyone just because it is the most financially efficient. Sometimes the psychological effect of paying off debt is strong enough to encourage someone to pay the debt with the smallest balance first. In some cases, debt to a family member may be more “important” than debt to a credit card company. The order that debt is paid off is a personal decision, but in pure numbers, this debt snowball method will get you there the quickest and the cheapest.
By the way, Fortune Magazine notes that “Supreme Court Justice Clarence Thomas was still paying off his school loans when he joined the bench.” Debt can be conquered, but it’s normal to struggle. Now here’s that full payment chart.
Updated August 29, 2011 and originally published December 21, 2006.