Personal finance

Minute on personal finances: 2 easy ways to pay off debt

Sunniva Kolostyak: Welcome to Morningstar’s Personal Finance Minute. Today we are going to see how to repay the debt. Most of us will incur some form of debt in our lives – student loans, mortgages, credit cards. There is no right answer on how to prioritize them. Debt and money are very personal and only you can decide your relationship with them.

Debt Avalanche Method

That said, there are different strategies to help you. Two methods are debt avalanche and debt snowball. A debt avalanche looks like this. You make minimum payments on all debts. Then any remaining money is used to pay off the debt with the highest interest rates. You then go to the next highest level until all your debt is gone.

Debt Snowball Method

The debt snowball looks like this: you list your debt from smallest to largest, make minimum payments on all debts, then put in extra money to pay off the smallest debt first.

So what’s better? Theoretically, it is always best to pay off the debt at the highest interest rate first, i.e. the debt avalanche method, and reduce the more expensive liabilities. But debt is often more than money, and it’s very psychological.

A small overdue debt can trigger stressful collection calls from creditors, for example, and paying off a small debt first can provide a sense of control and achievement, and motivate people. So it’s up to you to find a balance that works for you.

For Morningstar, I’m Sunniva Kolostyak.