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Paying Off Debt More Efficiently With The Modified Debt Snowball Method

Updated on June 30, 2011

I wrote my last article about the debt snowball method of debt reduction. While I believe it is a great way for people to start attacking their debt, I also realize that it causes more money to be paid in interest charges. This time I'd like to talk about the modified debt snowball, which is what I used to pay off my highest interest debts.

How Is It Different From The Debt Snowball Method?

As I described in my last article, the debt snowball method has you prioritize your debts by the amount you owe on them, from smallest to largest. You focus on the smallest debt, and after paying it off you take the money that you were paying toward it and apply it to the next debt instead. This way, every time a debt is paid off the amount you can pay on your next debt is larger. This allows you to pay off smaller debts first, and rather quickly at that. From there you have additional funds to use toward paying off larger debt.

The main criticism of the debt snowball method is the fact that it completely ignores interest rates. So what changes in the modified debt snowball? You prioritize your debts by interest rate rather than amount owed. The goal here is to pay off the debt with the highest interest rate first, then attack the next one. The idea of increasing the amount you pay each month from debt to debt is still in play with this method.

How Does It Work?

Let's set up an example to illustrate. I'll use the same example debt I used last time: an auto loan, credit card, and student loan. Below is a chart with the amount owed, minimum payment, and interest rate of each debt. As you can see, I already have them ordered by interest rate.

Debt
Amount
Monthly Payment
Interest Rate
Credit Card
$14,000
$300
20%
Auto Loan
$4,000
$150
6%
Student Loan
$20,000
$450
3.5%

This is where things get slightly different. Unlike the regular debt snowball method, I'm no longer paying off the smallest debt first. While the credit card is fairly large and will take more time to pay off, look at how high that interest rate is! The longer I wait to pay off this debt, the more that amount will grow!

For the purposes of this illustration, we'll assume that after all my other monthly expenses I have $1,200 left to apply to these debts. That's $900 per month that I need to meet the monthly minimum payment, plus an additional $300 because I really want to get out from under all this debt! So we will start with the credit card. I can pay $600 per month on it, which is the $300 minimum plus that extra $300 I have. I'll just pay the minimum on the other two debts for now. Now, the difficult part here is the size of the credit card debt. Even though I'm paying twice the minimum amount, it will still take over two years to completely pay off the credit card. And that's assuming I don't use it and increase the balance!

By starting with the credit card, however, I will save myself a significant amount on interest. And that is my main goal here...to give the credit card company as little money as I can! Once the credit card is paid off, I can take that $600 and add it to my auto loan payment, for a total monthly payment of $750. Considering the fact that I've already been paying on it for two years while I worked on paying off that credit card, the auto loan will be history in just a few short months. From there, I'll be throwing everything I have at that student debt -- a total of $1,200 per month until it's gone for good.

Conclusion

So that's how the modified debt snowball works. As you can see, the aim here is to repay the least amount of money possible. By paying off the highest interest debt first, this is the most efficient method I can use to get rid of my debt. The difficulty here is keeping yourself motivated, especially if the highest interest debt you have is also for a large amount, like in my example. While I could have paid off the car first in less than a year (while watching me credit card balance inflate due to interest!) the credit card will take more than two years to pay off. To succeed with this method you have to be patient and goal oriented. If you need more immediate successes to keep yourself on track, it may be best to use the regular debt snowball method instead.

As I stated in the last article, I actually started with the debt snowball method and paid off a few relatively small debts first, then switched to the modified debt snowball to finish off my larger debts. It wasn't the most efficient use of money, but being fresh out of college I felt it was important to free up extra monthly income in case of unexpected expenses. By paying off a few small debts first I accomplished that. The feeling of financial security was great to have, and it also gave me the ability to pay more on those larger debts until I was out of debt completely.

As always, I'd love to hear your take on this. Does anyone have any questions, comments, or success stories?

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