Baby Step #2 - The Debt Snowball Method

In my last post we covered baby step #1, saving $1,000 for an emergency fund. Once, you have finished that step, you can move on to step #2. But whatever you do, don't move on to step #2 until you have that emergency fund in place. Without the emergency fund, any debt you pay down in step #2 can be ruined by an unexpected expense.

Step #2 - Pay off all your debts using the debt snowball method

I'm going to be honest with you, step #2 will probably be your longest step. Most of us aren't going to finish this step in a few months. For most of us, it's more than likely going to take a few years. This can get frustrating at times, but just remember, in the end it will be all worth it. Our goal is financial freedom, and nothing is going to stop us from achieving our goal.

So here's how step #2 works:

First, you take all your debts and put them in order from the least amount to the greatest amount. It will look something like this.

1. Credit Card - $1,000
2. Car Loan - $8,000
3. Student Loan - $15,000
4. Mortgage - $100,000

Once you pay all your bills for the month, any extra money left over should be applied to the smallest balance. For our example, this means if you save an extra $100 a month, that money should be put towards paying off your credit card balance. Some of you may be saying, what if I don't have any extra money each month. Then get some. Get a 2nd job, sell your junk, cut your cable. You have to be willing to do whatever it takes to accomplish your goal.

Once you pay off your smallest debt, you move on to the next smallest debt which in our example would be the car. By paying off the smallest debt quickly you get excited about what you've done and you're ready to get rid of more debt. Once you pay off the 2nd, you move on to the 3rd and so on and so forth, until you've paid off all your debt. Pretty simple right?

I have to admit, I don't fully follow Dave Ramsey's Debt Snowball method. I skipped paying off a smaller student loan, to put money towards paying off a car. My reasoning behind this is by paying off the car I'd be saving an extra $300 a month, where as if I paid off the student loan I'd just be saving an extra $50 a month. My goal is to free up as much extra money as I can for when my new baby arrives. I could've paid off the student loan, then paid off the car, but it would take me an extra 2-3 months. Hopefully, by doing it this way, the car is paid off by the time the baby gets here. Which means, that $300 can now go towards diapers and formula.

Also, mathematically the best method would be to pay off the debt with the highest interest rate first. However, this could end up taking a long time to pay off, which could cause people to give up. This is why Dave Ramsey thinks the debt snowball is the best method. You can get small victories along the way which will continue to encourage you to keep going. For most people, I agree, the debt snowball is the best method. But the important thing isn't the method you use, the important thing is making a decision to get out of debt and sticking to it.

What method do you use? And what have been some of your experiences?