Debt pay-off question

[JHVS]

Generally, is it always smartest to use "extra" cash to pay off credit card debt. I've recently come into some money, not a ton but enough to pay off most, if not all of my credit card debt.

I have other debts: mortgage, car payment, education loan, and American General loan for dental work. But I seem to worry most about the credit card debt; probably about 20K. If I figure correctly, getting rid of the cc debt will make my other monthly expenses much more manageable.

I realize this is a VERY general question but I'm really just trying to figure out if I should take the money and pay off the cards?

Thanks much.

JHVS.

[Broken Arrow]

Generally speaking, I think it's best to pay off the debt with the highest interest rate first.

[disneysteve]

Originally Posted by Broken Arrow

Generally speaking, I think it's best to pay off the debt with the highest interest rate first.

I agree. Debt should be repaid from highest to lowest interest rate.

Should you take all spare cash and pay off debt? Do you have an emergency fund? If not, I'd set some money aside, perhaps $1,000 or so, and use the rest for debt.

[ActYourWage]

Originally Posted by disneysteve

I agree. Debt should be repaid from highest to lowest interest rate.

Should you take all spare cash and pay off debt? Do you have an emergency fund? If not, I'd set some money aside, perhaps $1,000 or so, and use the rest for debt.

I disagree. Debt does not necessarily need to be repaid from highest to lowest interest rate. Build momentum and win some battles, you are more likely to stick with the 'snow ball' effect payoff system.

[Merch]

There are two schools of thought on this.

The first is the mathematical. If you pay off the highest interest first, you will get out of debt quicker. This is always true because you are paying less interest over the time frame you are paying off debt.

The second school is that getting out of debt is changing personal behavior. Therefore you pay off the smallest balances first and build some wins. Your behavior starts to change and as you pay of each debt you get positive reinforcement.

Personally, I prefer the second approach because I believe you need to change your behavior for long term success. I also believe that the difference in the 2 approaches is usually 2-3 months. In my case the difference was 2 months.

The question you should ask yourself is are you already disciplined enough or do you think you need to change your behavior and I think that will help you decide the best approach.

Good luck.

[JHVS]

Thanks very much to everyone who has responded.

[disneysteve]

Originally Posted by ActYourWage

I disagree. Debt does not necessarily need to be repaid from highest to lowest interest rate.

Let me clarify that.

Paying off debt from highest rate to lowest rate is the method that will save you the most money and get you debt-free the fastest. You don't have to do it that way, of course. There is a mental lift from paying off a debt so some people choose to get rid of the smallest debts first, regardless of interest rate, because it helps motivate them to keep at it. That's fine as long as you understand that there is a financial cost to that method.

[DebbieL]

I agree with Steve on this one. Get rid of highest interest first. This is the logical thing to do (and I am a very logical thinker). Think about it - if you had $15k credit card debt at 19%, and 15k loan at 7% - which do you think is the best to pay off if you come into an extra 15K?

[ActYourWage]

Originally Posted by DebbieL

I agree with Steve on this one. Get rid of highest interest first. This is the logical thing to do (and I am a very logical thinker). Think about it - if you had $15k credit card debt at 19%, and 15k loan at 7% - which do you think is the best to pay off if you come into an extra 15K?

It may be logical, but that does not make the amount any smaller. One has got to stick with paying on their debt for either method to work.

$15k credit card @19% and 15k @7% is not a valid point. Of course you would pay off the cc first because the two amounts are the same.

[disneysteve]

Originally Posted by ActYourWage

One has got to stick with paying on their debt for either method to work.

Absolutely, which is why some people recommend snowballing based on amount.

$15k credit card @19% and 15k @7% is not a valid point. Of course you would pay off the cc first because the two amounts are the same.

Right. A better example of your point would be someone who has:
$20,000 @ 19%
$5,000 @ 12%
$1,000 @ 8%
$500 @ 5%

The most financially beneficial method would be to pay them in order, top to bottom. Psychologically, though, paying off the $500 debt would give you a sense of accomplishment, take one debt and one monthly payment off the list and make you feel as if you are making progress.

Some people need that type of mind game to stay motivated. Others don't and just want to do the system that gets the job done most efficiently. You just need to know which type of person you are.

[Runaway Finances]

It won't do you much good to pay off your CC debts if you don't change the spending behaviors that got you to having CC debts. I have years of experience of dealing with people who do this and I can virtually guarantee you that you will have similar CC debts within a year of paying them off. You are probably saying "No way!" Have you ever paid off your balances before? If the answer is "yes" then look back and see how much you paid off and how long it took to get the balances up to where they were before.

I'm with disneysteve (I don't know what you do, but I sure agree with you a lot!) in that you should hold some back in savings for that unknown expense that WILL come up. If you don't have savings then you will simply go back into debt. You have to break this cycle. Get to where you pay cash for everything and don't use debt. This will be a huge behavioral change for most people.

[disneysteve]

Originally Posted by Runaway Finances

I'm with disneysteve (I don't know what you do, but I sure agree with you a lot!)

I spend my days giving advice to total strangers on internet discussion forums

[Runaway Finances]

I spend my days managing money and giving investment advice and spend some evenings commenting on the same blogs you do!!! I love helping people with their finances and you obviously do too, disneysteve.

[disneysteve]

Originally Posted by Runaway Finances

I spend my days managing money and giving investment advice and spend some evenings commenting on the same blogs you do!!! I love helping people with their finances and you obviously do too, disneysteve.

I think in a previous life I must have been a finance guy. In this life, I'm a family practice physician, but I come from a family of accountants, so the money thing must be in my genes.

[DebbieL]

Originally Posted by ActYourWage

It may be logical, but that does not make the amount any smaller. One has got to stick with paying on their debt for either method to work.

$15k credit card @19% and 15k @7% is not a valid point. Of course you would pay off the cc first because the two amounts are the same.

I purposely made the sample that way to get the point across. If it should be obvious which to pay off first with the amounts equal, it is just as obvious with the amounts unequal. The CC paid off first will get you out of debt quicker and with less cost - no matter what the numbers are. I don't care if the other debts add up to only $5,000 or if they add up to $50,000 - it is irrelevant. Logically the best choice is always to pay off the highest interest first - period.

[ActYourWage]

Originally Posted by DebbieL

I purposely made the sample that way to get the point across. If it should be obvious which to pay off first with the amounts equal, it is just as obvious with the amounts unequal. The CC paid off first will get you out of debt quicker and with less cost - no matter what the numbers are. I don't care if the other debts add up to only $5,000 or if they add up to $50,000 - it is irrelevant. Logically the best choice is always to pay off the highest interest first - period.

Logical and money don't mixed for most people......or people wouldn't be in debt....something to think about.

Example: I want a new car. It is $30,000. I don't have $30K. Logical reasoning would not buy the car, but I really want this car, so I put it on a CC and now in debt to my eye balls. This is my point, people don't usually think logically when dealing with money. If they were thinking logically then they would have known that they did not have the cash and therefore would not buy the car.

Now money and behavior/emotion....now that's a match made in heaven. That is why my point toward paying down CC from lowest balance to highest w/o worrying about the interest rates. If the person is attacking their debts hard then the extra interest is not going to amount to much anyway since that debt will be paid for soon. It really is 20% math and 80% behavior.

[ceejay74]

This is an interesting discussion. I'm currently paying down my highest-interest debt, which is at 8.99%. Depending on job and income fluctuations, I'm anywhere from a few months to a couple years to getting rid of it, but I'm already thinking about what I'd want to do next.

I could go straight to the next-highest rate, a student loan. Or I could go after the last of my "bad" debt, the AX credit card. I could fix the emotionally "bad" debt and finish paying off my dad (I'm halfway done). Or I could start attacking my mortgage in an attempt to get some equity and refi it.

Since I've got some fixed, some variable; some with tax benefits attached and some without, it's kind of hard to settle on what I'll do next.

Here are the debts and their rates, if anyone is interested in weighing in:

Personal debt:
CO loan 8.99% fixed (FOCUSED ON PAYING OFF 1ST)
AX CC 3.99% fixed
Loan from Dad n/a

Mortgage debt:
US Mortgage 5.75% var.
UK Mortgage 1: 1.49% var.
UK Mortgage 2: 1.49% var.
UK Mortgage 3: 1.49% var.

Education debt:
AS SM 4.5% fixed
AS FM 3.0% var.
AS DL 6.55% fixed
NT DL Subsidized unknown (not due til '12)
NT DL Unsubsidized unknown (not due til '12)
NT FM 5.7% var.
NT Education n/a til '12

[ActYourWage]

What are the balances of these debts? This will help determine which to pay.

[ceejay74]

Personal debt:
CO loan $10,511 8.99% fixed (FOCUSED ON PAYING OFF 1ST)
AX CC $12,188 3.99% fixed
Loan from Dad $6,000 n/a

Mortgage debt:
US Mortgage $177,428 5.75% var.
UK Mortgage 1: $81,376 1.49% var.
UK Mortgage 2: $17,156 1.49% var.
UK Mortgage 3: $18,063 1.49% var.

Education debt:
AS SM $15,801 4.5% fixed
AS FM $2,145 3.0% var.
AS DL $12,581 6.55% fixed
NT DL Subsidized $1,043 unknown (not due til '12)
NT DL Unsubsidized $8,411 unknown (not due til '12)
NT FM $3,743 5.7% var.
NT Education $30,090 n/a til '12

[ActYourWage]

Originally Posted by ceejay74

Personal debt:
CO loan $10,511 8.99% fixed (FOCUSED ON PAYING OFF 1ST)
AX CC $12,188 3.99% fixed
Loan from Dad $6,000 n/a

Mortgage debt:
US Mortgage $177,428 5.75% var.
UK Mortgage 1: $81,376 1.49% var.
UK Mortgage 2: $17,156 1.49% var.
UK Mortgage 3: $18,063 1.49% var.

Education debt:
AS SM $15,801 4.5% fixed
AS FM $2,145 3.0% var.
AS DL $12,581 6.55% fixed
NT DL Subsidized $1,043 unknown (not due til '12)
NT DL Unsubsidized $8,411 unknown (not due til '12)
NT FM $3,743 5.7% var.
NT Education $30,090 n/a til '12

Are you a Doctor? That is quiet a bit of debt. Anyway, I would repay the debt this way:

Payoff:
1. CO loan $10,511 8.99% fixed
2. Loan from Dad $6,000 - will relieve any tension in the air about money
3. NT DL Subsidized $1,043 unknown (not due til '12) (You need to just get rid of these quickly)
4. AS FM $2,145 3.0% var. (You need to just get rid of these quickly)
5. NT FM $3,743 5.7% var. (You need to just get rid of these quickly)
6. AS DL $12,581 6.55% fixed
7. AS SM $15,801 4.5% fixed
8. AX CC $12,188 3.99% fixed
9. NT DL Unsubsidized $8,411 unknown (not due til '12)
10. NT Education $30,090 n/a til '12
11. UK Mortgage 2: $17,156 1.49% var.
12. UK Mortgage 3: $18,063 1.49% var.
13. UK Mortgage 1: $81,376 1.49% var.
14. US Mortgage $177,428 5.75% var.


You NEED to win some small battles, it will give you an emotional lift if you can knock out a couple of these debts.

Do you have a budget/spending plan?