The Best Way To Beat Debt
If there’s one issue that has been extensively talked about by personal finance bloggers and websites in the last two or so years, it is methods to pay off debt. The financial crisis triggered (and was triggered by) unprecedented levels of consumer debt, and at a time when world inflation is at an all time high, salaries are declining with massive lay offs being announced by companies that were for decades viewed as stable. Basically, steady income is now a myth for most people.
Even as we discuss methods, the question that begs: Which is the best way to pay off debt?
There are numerous free and paid resources on how to pay off debt, read about Debt Free Direct , an example of debt advisory services one can use.
Should you decide to go it on your own, there are so many resources online that could confuse you. A simple search on “effective ways to pay off debt” gives 250 million results. Where do you start?
The Motley Fool, a leading personal finance website for example gives 9 ways to pay down your debt. On this post, I summarize two approaches that have worked for me over the years.
At two points in my life, I found myself with more debt than I was willing to bear: once, I over- invested in a business that failed, leaving me with loans I’d taken for it (on a later post, I will share the folly of this), and the second time I was indisposed for sometime, and since I had invested my emergency fund in a business (folly), I had to take on quite a bit of credit card debt and a soft loan, that I needed to pay off at a time when I had very little extra income to put into debt repayments.
1. Highest interest method: This is the most sensible approach mathematically speaking. You basically start by paying off the loan that carries highest interest first, moving downwards. The logic behind this method is that you end up paying less total interest if you pay the high interest debt first, and that makes mathematical sense. The disadvantage of this method is that it could take long, and discourage you if your high interest loans are also of very large amounts. The High Interest Method works best if you have credit card debt, together with other longer term debt, then it makes sense to clear off the credit card debt first.
Sometimes it may even makse sense to take longer term, low interest debt, to pay off the high interest loans. For example, assuming you have Kshs 100,000 credit card debt, which is costing you Kshs 3,500 in interest ONLY per month. It may make sense to take a 1 year SACCO loan of the same amount, which will at most cost you Kshs 12,000 in interest per annum, to pay off the credit card debt.
2. The snowball method: Having written about this method before, I will describe it very briefly. You start with your smallest debts first, then slowly pay up your debt. This method is based on two factors: First, as you pay off your smaller debts, you increase the amount of money available to pay the bigger debts, and secondly, it is psychologically more fulfilling to see quick wins on your war against debt.
Personal finance is more psychological than it is mathematical, and that’s where the Snowball Method wins. It keeps you motivated. the only downside is that you could end up paying very high interest, especially if your larger debt is high interest debt.
Either way, whichever method you choose, out of the 250 million plus methods, the end justifies the means in this case, and our end should be to live a debt free life.
Have you ever been in debt you didn’t plan for? How did you pay it off? Of the two methods above, which one would be easier to apply?
Share your thoughts!
