Paying Off Family Debt: How to Decide Which Method to Use

 

Mortgage

Image by Rev Dan Catt via Flickr

Paying off all the debt a family can accumulate in the early years is never an easy task. It requires time, patience and often, a little extra income. If you plan on paying off your family debt by making additional payments, there are two main schools of thought about how to accomplish your goal. However, deciding the right approach means assessing your family’s needs.

 

Pay Off the Highest Interest Debt First

When I was working on an undergrad in college, I was constantly trying to optimize everything. I’d spend hours finding the optimal price given supply and demand, the optimal allocation of resources and optimal social benefits for government programs. That’s why I strongly believe that many of my economics teachers would like me to tell you to pay the highest interest debt first.

By paying high interest debt before low interest debt, you will be making your overall costs of borrowing decrease. Translation? You should pay less money in total if you focus your repayments this way.

Pay Off the Lowest Balance First

The other method commonly advocated is to pay off the lowest balance first. The money you’ve freed up is then used on the next lowest balance. This has a snowballing effect until all of your family debt is paid off. Hank Coleman points out that using this method provides a motivational boost. Attacking your lowest balance debts will result in paying off some of your debts sooner even if it means paying off all of your loans later.

Which is the Best Way to Pay off Family Debt?

It’s different for everyone. Each method has its advantages and the best option depends on your family’s financial situation. I recommend assessing the monthly burden your family debt has on the cash you have each month.

There are two types of expenses a family can have: variable expenses and fixed expenses. We have the power to control variable expenses. For example, food is a variable expense that can be cut by using coupons. That control often makes the debt feel more manageable, not necessarily easier. Debt is the other type of expense: fixed. Since you have no control over the cash that it drains, it’s a perpetual weight on your resources. I find that determining the weight of that burden is the best way to choose the method for you.

If you need flexibility in your monthly supply of cash or if the sheer amount of debt bills you pay each month seems insurmountable, I’d recommend paying off the lowest balances first. It’s the quickest way to free up money each month and will alleviate the family stress that comes with carrying too much debt. Once you’ve paid off one of your bills, it seemingly has the effect of receiving a pay raise. However, you should know that you might be paying more on your debt overall and it may even take you longer to pay all your debt off.

On the other hand, if you don’t feel a significant squeeze on your finances and you don’t anticipate any near-term financial difficulty, then you should consider paying off high interest debt first. It guarantees the least amount of cost and shortest period of debt repayment. When debt burden is manageable, it’s best to wait out your debt and save as much in interest payments as is possible.

Paying off the highest interest debt is the best way to save you overall, but the lowest balance is the quickest way to free up more money in your pocket.

What ways have you found effective in paying off your family debt?

Enhanced by Zemanta

Like this Article? Subscribe to Our Newsletter

Related Posts Plugin for WordPress, Blogger...

Google+ Comments