Which Debts Should You Pay Off First?

which debt to pay off first

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When you’re holding debt, sometimes it can be challenging to take a step back and come up with a plan to relieve your burden.

I know I struggled to decide which payments to prioritize when I was in debt. Like many people, I mostly paid the minimum due – or more when I could – and yet, I felt like I was barely making any progress.

And then a close family member passed and left me about $10,000. Around the same time, my new accountant found some errors in previous tax returns which brought in an extra $5,000. It was more money than I’d ever received at one time, and once I overcame the initial urge to spend it on something frivolous, I decided to put it towards paying off my debt. But first I needed to determine how to apportion it:

  • To my student loans, which totaled $25,000, and carried an interest rate of almost 7%; or
  • To my credit cards, which only had a combined balance of $10,000, but had interest rates around 14%.

I had to make a choice, so it was time to crunch the numbers. When you’re deciding which debt to pay off first, you’ll need to look at your own balances, interest rates, and available funds to figure out where to start.

Read more: Your 7 Minute Guide to Paying Off Debt

Step One: Figuring Out What You Need

There is a theory in psychology posed by Abraham Maslow in 1943 that lays out a “hierarchy of needs” for people to reach self-actualization, or the ability to reach their full potential. When it comes to paying off debt, this hierarchy can be a great blueprint towards being debt-free.

Which debt to pay off first
Maslow’s hierarchy of needs can be a template when deciding which debt to prioritize.

Maslow’s hierarchy looks like a pyramid, where the most critical needs are at the bottom. To reach the next level, you’ll need whatever was in the previous. When used as a template for debt repayment, Maslow’s hierarchy would look something like this:

  • Bottom Level: Physiological survival needs, such as air, food, and water
  • Second Level: Safety needs, such as housing, health, and employment
  • Third Level: Debt and savings needs, which will protect you now and in the future from growing balances
  • Fourth Level: Social needs, which in this case can mean everything from your phone plan to the clothes you wear
  • Top Level: Freedom from debt

Step Two: Creating A Debt Reduction Blueprint

What I found so helpful about using Maslow’s needs as a template is it helped me realize what I had to spend on – the non-negotiables – and what I wanted to spend on, which more often than not, contributed to my debt. So what does this mean in terms of prioritizing your expenses when paying off debt?

When thinking about survival needs, the bottom level, you have to have food, clean air, and water in order to live. These costs must be paid, even when you’re in serious debt.

As for safety needs, you need somewhere safe to live with a roof over your head. You’ll have to pay rent or make mortgage payments, no matter how large your debt balance is. You also need your health, in which case you can’t stop paying for things like health insurance.

When it comes to debt payment and building up savings, you’re talking about a significant priority – one that is right above your housing needs. You’ll want to make sure all of your payments are being made on time, and that you have saved for any future expenses.

As for level four, you’ll find that you do need some elements of social and personal items, but you could probably still survive without them. You don’t need the newest cell phone to be able to connect with others in a social sense; an older model will work fine.

Step Three: Create Your Budget

Now comes the time to make a budget. Your budget will help you figure out how much you have to pay off your debts, and how much you’ll need to save to increase that number.

To get started quickly, gather all of your income information and factor out your average monthly income. Then, make a list of all the payments you make that fall under levels one and two above – these are mainly set in stone. Subtract that amount from your income, and all that is left can go to the upper levels.

Which debt to pay off first
Which debt should you start paying first?

Get together all of the debts you owe, from your car loan to your mortgage to your credit cards, and make a list that breaks them down by current balance, interest rate, and the minimum monthly payments required. After your essential costs, paying these off should be your focus. When you need to pay off debt, prioritize putting your money towards those balances, and make some sacrifices in your social and personal wants while doing so.

Step Four: Which Debt To Pay Off First? Snowball vs. Avalanche

Now for the fun part – you know what you need to live every month, and you know what you owe, so it’s time to come up with a strategy to reduce those balances.

In my case, I had two categories of debt to address, student loans and credit cards, so I planned to pay off my highest interest rate first, the $10,000 of credit card debt at a rate of 14%. That would leave me with $5,000 to put towards my student loan debt, but since the interest rate was half that of my cards, I figured I’d save more on accumulated interest by tackling higher rates first, a technique often called the avalanche debt repayment method.

And in my case, it worked, primarily because I paid off that highest-interest debt in one go, which motivated me to keep going. But the avalanche method should be used with caution:

  • If all of your interest rates are similar, you won’t notice much of a difference prioritizing one over another.
  • If your balance is high, you could be putting money towards it without seeing much progress, and can quickly become discouraged and not follow through.
  • You should not neglect other payments while paying off accounts with high interest.

If you like to see faster progress, the snowball debt repayment method can help you quickly pay off accounts with smaller balances, leaving you to focus on the bigger ones. However, you may still be allowing your debt to increase if you neglect those higher interest accounts.

Step Five: Can Debt Consolidation Help?

One of the things I may have done differently when paying off my debt was to look at debt consolidation options like balance transfer cards. At the time I still had high credit despite my debt balances, so I probably could have qualified for a 0% APR promotional period from a balance transfer card. Then I could have put the bulk of my windfall towards my student loans and attacked the $10,000 balance on one card with one year of no interest through frugal living and smart saving.

Which debt to pay off first
Keep saving money every day to pay off your debts even faster.

The most significant benefit of debt consolidation is that you no longer have to worry about multiple balances, so you’ll instead focus on paying off only one, which can help improve your credit if you’ve been missing payments. Plus, when you can consolidate higher-interest debt, like credit cards, at more reasonable rates, you’ll still save on the interest in the long-run.

Step Six: Easy Steps To Save More Money For Debt Repayment

Even though I was able to pay off my credit card debt quickly, I still had thousands in student loans to address, which is how I learned the importance of saving money every single day to put more towards my debt payments. Since you’ve already created a budget, it should be easy to start trimming the fat on your day-to-day expenses. These tips and tricks will help you get started:

1. Save on utilities: Call up your utility companies to see if they have any promotions or ways to reduce your rates. Some utility companies may even offer set payments each month, so your bill is not at the whim of mother nature, and you can plan for it.

2. Sell your car: I’ve lived car-free for nearly ten years now, and I can’t imagine how much I’ve saved just by taking public transportation. Plus, with drive-sharing companies now present around the world, it’s easy to get a ride whenever and wherever I need it, which still costs less in a month than just one car payment.

3. Boost your credit: The better your credit looks, the easier it will be to access debt consolidation options and preferential rates for refinances. Check your credit report regularly for errors, and focus on making all of your payments on time, paying more than the minimum required when you can.

4. Cut your spending: Look for ways to save on everything you buy, whether it’s clipping coupons for the grocery store or looking for sales and discounts.

5. Earn some extra money: Sign up for paid survey sites, so you can use any spare time to earn a few bucks. Be sure to look for legitimate paid surveys to avoid scams.

6. Refinance: If you own your home or car, consider refinancing it to get some more savings on your essential costs. It’s vital that you only refinance into better terms and interest rates.

The key to paying off your debt is to prioritize it. Your debt payments should be the first place your money goes after your essentials, and if you can, you should also simultaneously save as much as you are able to avoid any future added debt. Whether you sign up for paid survey sites or you sell some unwanted items, find those small steps to take that can start adding up.

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