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supercharging the debt snowball

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Yesterday, when I explained about Dave Ramsey’s debt snowball, I said that the biggest drawback is that you end up paying more by paying off your debts in order from smallest to largest, than you would if you paid them off in order of highest interest to lowest interest.

Now, unlike Dave Ramsey, who is hot on psychology, arguably the biggest finance guru in the UK, Martin Lewis - the Money Saving Expert, is all about the maths. If he made over your finances, he’d never have you paying off your debts smallest to largest, instead he’s pick the more rational choice to pay them off highest to lowest interest rates. Funnily enough, I’m pretty sure that Martin has never had a debt problem.

What if you could make it so that the smallest debt also had the highest interest, and the largest debt also had the lowest interest?

Then it hit me, that’s the outcome you’re aiming for when you use Money Saving Expert’s credit card shuffle. You can have all the psychological advantages of the Dave Ramsey method, whilst still getting the financial rewards of paying off higher interest debts before lower interest ones. And it doesn’t mean that you take on any more credit.

The time to do this is once, at the beginning when you’re setting up your debt snowball. (If you’ve already set it up, you might want to revisit it to see if you can save money with this technique.) You’ll need a list of all your debts together with total amount of each debt, the interest rate and the credit limit.

the credit card shuffle

Mostly, this works better with credit cards and overdrafts than it does with other loans - you need to check the terms of your loan to see if it will be worthwhile.

step 1: ask them to lower their interest rates

This is easy. All you need to do is call up each credit card company and ask them to lower the rate. They might just do so. If they do, make a note of the new rate.

step 2: find out about special deals

Whilst you’re on the phone to the credit card company trying to get your interest rate lowered, ask them if they have any special balance transfer offers for new customers - if there are, write those down as well.

step 3: the shuffle

This is the more complicated step. The idea is that you move your debt from the higher interest cards (or overdraft) to the lower interest cards.

Suppose you have 3 credit cards and an overdraft:

  1. Visa £1k balance, £3k limit, @ 6.9%
  2. Amex £2k balance, £4k limit @ 12.5%
  3. Overdraft £2.5k, £2.5k limit @ 13%
  4. Mastercard £4k balance, £5k limit @ 17.9%, (lifetime balance transfer deal @ 9%)

Here, we want to get as much debt as possible onto the Visa, then the new balance transfer from Mastercard, then the Amex, then the overdraft then finally, the old rate on Mastercard.

Firstly lets start by moving the most expensive debt onto the least expensive card.

  • transfer £2k from the Mastercard to the Visa

The Visa is now full up, but we still have £2k on the Mastercard. We can’t put this on the new offer, but we can put this on the Amex.

  • transfer £2k from the Mastercard to the Amex

At this point we have no debt on the Mastercard, and the Amex is full. The final steps in the shuffle are to use the special balance transfer offer transfer.

  • transfer £2.5k from the overdraft to the Mastercard (new balance transfer rate)
  • transfer £2.5k from the Amex to the Mastercard (new balance transfer rate)

After the shuffle we are left with:

  1. Visa £3k balance, £3k limit, @ 6.9%
  2. Mastercard £5k balance, £5k limit @ 9%
  3. Amex £1.5k balance, £4k limit @ 12.5%
  4. Overdraft £0k

The smallest balance has the highest interest rate, and the larger balances have lower interest rates. Everyone’s a winner (except the credit card companies).

Now, if you think that it sounds too complicated, on the Money Saving Expert site you can download a credit card shuffle worksheet to help you. Also, you only have to do this once, when you set up the snowball. Finally, even doing a little bit of a shuffle will save you money in the long run, and get you out of debt more quickly.

Hot or Not? Let me know what you think in the comments.

Image by The359.

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29 comments for “supercharging the debt snowball”

  1. I like the idea - this way you are combining the smartest financial strategy with the one that has the best psychological advantage. That’s a powerful combination when trying to beat debt.

    Posted by Frugal Dad | April 18, 2008, 1:25 pm
  2. I’ve made the same remarks regarding the bad math of the snowball.

    I’ve found that when juggling the debt, often the great new card with no fee and low rate would have the lowest limit. So, years ago, I had 5 cards with $2K or lower limit but rates below 10% (late 80’s) and high interest cards had much higher limits. So I kept the low cards full up and paid off the high rate cards first.
    Not rocket science, but you knew that.

    Posted by JoeTaxpayer | April 18, 2008, 2:10 pm
  3. Interesting. That’s assuming that the rate on balance transfer is the same as on normal stuff (which I think it is in many cases). Our only credit card debt happened to be about $800 and also at 29.9%. So yeah, that fell first under the axe…and it was the smallest balance too.

    Posted by Mrs. Micah | April 18, 2008, 3:14 pm
  4. Don’t forget about balance transfer fees. In the United States, many cards have dropped their initial fee-free balance transfer offer… and if you plan on transfering a balance to an existing rather than new card, good luck. A balance transfer fee of 3% is worse than an interest rate difference of 3% because the BT fee is charged at once and you’ll be charged interest on *top* of that right away, while a 3% interest rate difference is distributed across an entire year.

    Posted by Flexo | April 18, 2008, 9:10 pm
  5. That’s an excellent point. Most of the 0% offers have a balance transfer fee on them, but I think that if there is an interest rate then you often don’t get a fee. Always check the small print.

    Posted by plonkee | April 18, 2008, 9:16 pm
  6. This is brilliant advice!
    Great post!

    Posted by Frugal Trenches | April 19, 2008, 5:14 pm
  7. Also setup Outlook reminders to check to make sure that your payments post. If you miss a payment, your special interest rate goes away.

    Posted by Wade Young | April 19, 2008, 8:08 pm
  8. Yeah, my first thought was “what about the balance transfer fees”?? We just t/f our cc debt to a “0% for 6 months” interest rate, but it cost us $150 (3% x $5000) for the privilege. Although it’s our only debt besides my husband’s student loan and our mortgage, if we had many debts, then we’d have to seriously sit down and look at the numbers to see how much we’d save by the credit card shuffle, if we had to add in balance transfer fees.

    Posted by Kathy | April 19, 2008, 8:33 pm
  9. @Wade Young:
    That’s a good suggestion. Whatever you do with credit cards, it’s really important to make all the payments on time.

    I guess if the current interest rate that you’re on is really high, the fee for doing a balance transfer may well be worth it. As a rule of thumb it probably adds on about + fee + 1% to the rate you’re being offered. So if you’ve got a balance transfer rate of 7% and a balance transfer fee of 2%, then the total interest rate is (very roughly) 10%.

    Posted by plonkee | April 20, 2008, 8:24 am
  10. I love this idea because it gives you the best of both worlds! However, it seems this only applies to credit card debt, unless you have enough credit to “pay off” a car loan or higher interest debt with a 0% credit card and were able to pay it off before a rate increase.

    Posted by Maria, Financial-Tip | April 21, 2008, 3:06 am
  11. @Maria:
    Well, if the terms of your loan allow overpayment without penalty (some do, some don’t) then you may be able to move some of the loan onto a credit card.

    It’s true that this method works better with credit cards and overdrafts though.

    Posted by plonkee | April 21, 2008, 8:33 am
  12. Nice idea. Just be sure that you don’t spend too much time on it. I am sure that the law of diminishing returns applies–you will have a large gain after a very small amount of time, and any additional time will only cause a small amount of additional gain.

    The time you spend researching, analyzing, transferring, monitoring, and otherwise optimizing your interest rates may be optimally spent working a second job or figuring out how to squeeze your budget even more.

    Posted by Math shows math doesn't help much | June 9, 2008, 9:04 pm
  13. Thanks for giving clear steps on debt reduction, very helpful.

    Posted by Greg NCO Financial Systems | May 29, 2010, 5:08 am
  14. Creidt cards are a useful tool but can be a financial trap. Read advice on how to avoid those traps such as high interest charges, excessive fees…

    Credit Card Tips

    Posted by Credit Card Tips | July 6, 2010, 8:06 am
  15. Credit card, mostly used comes in business purposes. Credit card have been in business for 14 years . We also purchase any thing, who can be purchased. we can refund money in 3-5 month who borrow for purchased. We can use credit card anywhere in whole world. We can use this credit card limit of our salary. credit card is like plastic money. we can get loan also for behalf this.
    paul harris

    Posted by Credit Card Tips | July 6, 2010, 8:09 am

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