Debt: Should You Use Reason or Emotion?

What would you do if reason says one thing but your heart says another?

That’s the predicament many people find themselves in as they search for the best strategy to repay debt.

Reason says you should repay the debt with the highest interest rate first. Your emotions say to — well, really, they say to run and hide. Stop answering your phone. Maybe flee the country.

Barring those extremes, your emotions tell you to repay something, anything, regardless of its interest rate, so you can feel the relief of checking at least one debt off your list.

Today we’ll take a look at the pro’s and con’s to both of these strategies.

The Most Reasonable Plan

Reason says that debt is bad, not because it makes you feel icky, but because it negatively affects your bottom line, your personal balance sheet.

High interest rates have the worst effect on your bottom line; low interest rates have the least effect. It makes sense to repay high-interest debt first, the reasonable strategy says.

Based on logic alone, this would be your step-by-step action plan:

1. Make a list of all your debts.
2. Rank the list in order from highest-interest to lowest-interest.
3. Make the minimum payment on all debts.
4. Throw every spare penny into making extra payments on the highest-interest debt.
5. Congratulate yourself when the highest-interest debt is repaid.
6. Throw every spare penny into making extra payments on your second-highest-interest debt (which is now your highest-interest debt).
7. Repeat until finished.

There are some variations on this plan — financial writer Suze Orman suggests making the minimum payment plus an extra $10 on all debts while plowing the rest of your money into the highest-rate debt. Presumably this gives you the satisfaction of seeing the balances on all your debts recede (or at least not accelerate) while you’re tackling the worst offender.

(Suze recently changed her mind and started advising people to make only the minimum payment on ALL debts while building an 8-month emergency fund, but that’s a different story.)

The Emotionally Satisfying Plan

Recently, another method has grabbed the headlines. Known as the “debt snowball,” this method promises to be the most emotionally satisfying, even if it costs you more in interest fees.

The debt snowball method, popularized by financial radio host Dave Ramsey, goes like this:

1. Make a list of all your debts.
2. Rank the list in order from largest to smallest.
3. Make the minimum payment on all debts.
4. Throw every spare penny into the smallest debt.
5. Congratulate yourself when the smallest is repaid.
6. Throw every spare penny into making extra payments on your second-smallest debt (which is now your smallest debt).
7. Repeat until finished.

I admit when I first heard about this, I was shocked — why would he recommend a method that could cost you hundreds, if not thousands, of extra interest fees?

It made no sense. It smacked of bad advice. I even contemplated writing an anti-debt snowball post.

But then I started reading personal stories of people who swear this method helped them pay off a mountain of debt. Jamie Tardy, the author of one of the first financial blogs I started reading, Eventual Millionaire, credits the debt snowball method for helping her repay $70,000 in debt when she was pregnant.

We paid off the first student loan very quickly. It took a few months to pay off the Jeep, and it felt so great to eliminate two payments per month. Then we had the two huge loans next.

The psychological win of eliminating one monthly payment — and then another monthly payment — gave Jaime the motivation to live the demanding lifestyle necessary to repay debt: she worked around the clock despite being 8 months pregnant, she never ate at restaurants, and she sold every possession she could imagine — her weight bench, her kayak, her wine rack.

Financial writer J.D. Roth amassed $25,000 in consumer debt in his twenties, but struggled to find the motivation to repay it:

(The rational method) made perfect sense. By doing this, I would be paying the minimum amount in interest over the long term.

But his highest-interest debt was also his largest. And no matter how hard he tried to chip away at the balance, he never felt like he was making progress.

He’d get discouraged. He’d stop trying. It was like a yo-yo diet.

I’d start and fail. Start and fail.

When he heard about the snowball method, he had the same initial reaction that I did — “this doesn’t mathematically make sense.” But then he figured he’d give it a shot. He had nothing to lose.

I knew it would cost me more in the long run, at least on paper. But … I tried it. In four months I’d paid off most of my debts. I was shocked.

So What’s the ‘Best’ Strategy?

While I’ve become sympathetic to the snowball method — particularly after hearing firsthand accounts of how much it has helped people — I can’t help but feel queasy about all the extra interest payments incumbent in this method.

So I’ve devised a third plan, one that brings reduced interest payments in sync with human psychology. I’ll unveil it on Monday in a detailed post. (Update: Here’s the post!)

In the meantime, readers, sound off on the two debt repayment plans listed above — the rational method and the emotional method. Have you tried either of these? What works for you?

Not in debt? Read about the “Savings Snowball” method to accelerate your savings.

Photo #1 courtesy Flickr user Kamshots.
Photo #2 courtesy Flickr user Paul Stevenson.