Creating Your Debt Reduction Snowball Plan

By Leo Babauta

If you’re ready to start facing your debts, what exactly do you do?

We’re going to use the debt-snowball method. It’s a method popularized by financial guru Dave Ramsey, that I used in my own life.

I should note that while the debt snowball usually works by paying off the smallest debt first, then the next smallest, you don’t need to do it that way. It’s actually more efficient to pay off the highest-interest debts first. But most people find encouragement (as I did) in paying off a small debt and feeling like they’re making progress by eliminating small debts quickly. Honestly, for most people either method will work — do what you think will work best for you.

Here’s my version of the method:

List debts, smallest to largest. Make a spreadsheet, or just write it on paper if spreadsheets scare you. List all your debts first — that means getting the amounts from online accounts or paper bills. Put down the amount, and the minimum monthly payment for each. This can take a bit of time, but don’t put it off. Even if you only do 1 or 2 debts today and then another 2-3 tomorrow, get started! Once you have the debts and their amounts, reorder them — either from smallest debt to largest, or from highest interest to lowest. Either works.
Figure your minimum monthly payments. Add up all of the minimums. Some debts don’t require monthly payments, but most do. A mortgage or car payment have fixed monthly payments. Credit cards have minimum payments. Add those up. That’s your minimum. Is it more than you can possibly pay each month? You’ll need to reduce other expenses to meet this number, or renegotiate (see section below for more).
Figure out how much you can allocate to debt repayment. If you can pay the minimum monthly, see if you have a bit left over in your budget. This is what we’ll call your “snowball amount”. Let’s say your minimum payments are $900, and after figuring out how much you normally need for food and gas and utilities and medical, you have another $100 you can use for debt repayment. This $100 is what we’ll call your “snowball amount”. You can increase this snowball amount over time by reducing expenses or increasing income.
First, use snowball amount to create a small emergency fund. If you have zero in savings, this is dangerous. If an emergency comes up (car breaks down, you need to go to the doctor), you’ll have to get that money from somewhere. Often people put this on the credit card, worsening the debt problem, or they have to wipe out their snowball amount and/or not make a debt payment or two. So not having an emergency fund savings account is bad for debt reduction/elimination. So start by saving up $100 or $200 using your snowball amount, and try to increase this a little each month.
Then use snowball to pay off first small debt. Once you have at least $100-200 in an emergency fund, take most of your snowball amount and start paying off the first debt on your list (smallest debt or highest interest). If your emergency fund is less than $1000, you can leave a bit of your snowball amount to keep saving, and increase this amount allocated to savings over time as your snowball amount increases. So use most of your snowball amount to pay off your first debt (smallest or highest interest) as soon as possible. For example: if your first debt is $200 and has a $50 monthly minimum, and your snowball amount is $100 (not including what you’re putting towards savings), the first month you can put $150 towards this first debt. The second month, the debt will be paid off with another $50, so you can take the extra $100 and put it to the next step below.
Take the debt snowball amount and apply to next debt. Now that your first debt is paid off, your snowball amount is bigger! In the example from the last step, your snowball amount was $100, and the debt you just paid off had a monthly minimum of $50 … so now that this debt is paid off, you have a new snowball amount of $150! You can allocate a bit of that towards your emergency fund if needed, but otherwise, put that entire $150 towards the next debt on your list. If that debt is $300 with a $50 minimum, you can pay it off in a couple months, and then your new snowball amount will be $200!
Repeat. Keep repeating this process, adding your snowball amount to the minimum monthly payment of the top debt remaining on your list until it’s paid off, then adding that minimum monthly payment to your snowball amount and applying that to the next debt, and so on.

As you can see, the snowball amount increases as you pay off your debt — a nice reward for paying off debts! The snowball amount increases, making it easier to pay off the next debt, and so on, until you’re out of debt.

Here’s a spreadsheet example of the method in action. (Note that this assumes you have a small emergency fund already.)

What If You Can’t Pay the Minimum Monthly?

If you can’t pay your monthly minimums all added up, the debt snowball method won’t work, because it depends on you finding enough for the monthly minimums plus a little extra (the snowball amount).

So what should you do? There are a few options to consider:

Cut some expenses. This should be your first option. Cut back on everything possible — eating out, buying junk food, going to the movies, drinking Starbucks, magazine subscriptions, online subscriptions, cable TV. Sell one of your cars if you have two. Move to a cheaper place. Don’t do any traveling. This might sound extreme, but you’re in extreme circumstances — you can’t make your payments — and it’s only temporary. Once you’re out of debt, you can loosen up a bit. I cut all of this and more to be able to pay off debt.
Renegotiate. Often if you call up your creditors, they’ll be willing to make a deal with you. Tell them that you’ve been through hard times, and are putting together a plan to pay off all your debts, but you need a little time. Ask for a lower monthly minimum, and/or a few months’ break so you can pay off a couple other debts first. See what they can do for you. Some will be accommodating, others won’t. It’s worth a shot.
Put some on hold. It’s not a great option, but if the above two options don’t work, you can just not pay one or two debts for a few months. That won’t look good on your credit rating, and you’ll get some penalties, but you need some breathing room. Take as short a break as possible, pay off one or two debts, then resume your focus on the other debts. It’s not great, but you have to do what you can.
Bankruptcy. This is a dreaded word, because no one wants to file for bankruptcy. But I know people who did this, and just didn’t borrow money for awhile, and eventually built up good credit again. It’s an option, and it can work if you really can’t make any of the other options work. Just learn the lesson: don’t get deep into debt again!