For many, the coming of the new year represents a chance to better themselves or complete oft-ignored projects. People make lists about new workout routines, plans for an upcoming road trip vacation or goals to write that novel they’ve been thinking about. While these are wonderful resolutions, many people could benefit from creating a solid financial foundation that can help them going forward.
While every financial situation is different, there are common themes that people can follow when working to get out of debt, including:
- Create a realistic budget
- Limit discretionary spending
- Build a savings account
- Build an emergency fund
- Cancel ancillary lines of credit
One of the main goals many individuals have is to pay off their numerous credit cards and personal loans. This can be accomplished in several ways, but people tend to follow one of two paths: the snowball method or the avalanche method.
The Snowball Method
Imagine rolling a small snowball down a hill. Gradually, it gains more and more material and grows in size. This is the analogy used to describe the snowball method of debt repayment. Individuals pay off the debt with the smallest interest rate and then move on to paying off the next largest and so on.
While focusing on the identified debt, you continue paying the minimum on the remaining debts. The strategy is to take the money you were using to pay off the smaller debt and add it to what money you will use toward the new debt, increasing your payment. The strategy continues until the final debt, where all the money that would have gone into the other, smaller debts is now used against one credit card or one loan.
The Avalanche Method
This is a similar method, only in the opposite direction. While making the minimum payments on all debt, individuals focus remaining money on the debt with the highest annual percentage rate or interest rate. When they pay that debt off, the next highest rate is attacked. By following this method, individuals can eradicate high interest rates and save hundreds of dollars.
Some individuals focus on the amount of the debt rather than the interest rates when choosing these methods. There might be less of an overall savings, but the mindset is similar. They focus on paying off one debt then move that money toward another debt rather considering the funds free-and-clear.
Using a strict budget, individuals can focus on paying off their debts and avoiding financial peril in the coming year. If debt is beyond your means to repair it, it’s wise to seek guidance regarding the benefits of Chapter 7 and Chapter 13 bankruptcy.