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Author: FlippoHip Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 308722  
Subject: Interest Rate V. Amount owed Date: 8/23/2012 11:25 AM
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My last post brought up the debate about whether the interest rate is significant when deciding whether to pay off highest debt first or lowest debt first when the rates are only a point apart.

Here is what I came up to (I'm not comfortable putting my exact debts on a public forum)

Smaller debt = (10.9%)
Pay minimum until paid off: total interest $1162
Pay large chunks and pay it off quickly: total interest $308

Larger debt = (9.9%)
Pay minimum until paid off, total interest paid $6951
Pay large chunks and pay it off quickly: total interest $1329

So, the interest rate really isn't a factor here. The amount of the debt negates the importance of the rate.

Even if the rate of the small one was 12%, the total for paying it off quickly would only be $342.

If it was 19% it would still only be $566.

So, I have decided that paying off the big one, even with the lower rate, will be better in the long run, and it will make me feel better to see this large number drop.

Thanks everyone for the inputs. It really made me think it all through.
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Author: reallyalldone Big funky green star, 20000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305798 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 11:46 AM
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Even if the rate of the small one was 12%, the total for paying it off quickly would only be $342.

If it was 19% it would still only be $566.


Seeing it as "only" throws a flag for me.

I'm with PSU - I go with the math. Wouldn't you go with the math if you were buying anything else ? Here you are buying credit.

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Author: FlippoHip Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305799 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 11:58 AM
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I'm with PSU - I go with the math. Wouldn't you go with the math if you were buying anything else ? Here you are buying credit.



I'll reword it:
If it was 19% it would still be $566 compaired to the $1200 of the larger credit card.

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Author: PSUEngineer Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305800 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 12:12 PM
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So, the interest rate really isn't a factor here. The amount of the debt negates the importance of the rate.

Mathematically, interest rate is always important. Paying off the higher interest rate will result in lower total interest paid.

As for being a factor, in this case the difference in interest paid is small enough not be a large factor in the decision.

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Author: aj485 Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305801 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 12:39 PM
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Smaller debt = (10.9%)
Pay minimum until paid off: total interest $1162
Pay large chunks and pay it off quickly: total interest $308

Larger debt = (9.9%)
Pay minimum until paid off, total interest paid $6951
Pay large chunks and pay it off quickly: total interest $1329

So, the interest rate really isn't a factor here. The amount of the debt negates the importance of the rate.


I think you are missing the point of looking at the total interest you will pay for both loans, given the amount of money you have to devote to the payments.

As an example:
             Balance  Rate     Min Pay
Debt 1 $12,100 9.9% $225
Debt 2 $ 3,600 10.9% $75

Total Monthly debt payment available $750

If you make a $225 payment to Debt 1 every month, and pay $525 towards Debt 2 until it's paid off ($750/month total), then switch to paying the entire $750 toward Debt 1, you will pay about $1600 in total interest over the time you pay off the debt.

If, instead, you pay $75 toward Debt 2 every month, and pay the other $675 towards Debt 1 until it's paid off, then switch to paying the entire $750 towards Debt 2, you will pay about $1625 in total interest over the time you pay off the debt.

So, it will cost you about $25 extra to focus your surplus payment amount toward Debt 1, rather than Debt 2. If it's worth it to you to pay the extra $25, then go for it. But make sure you run through your particular numbers to make sure it's worth it to you. If you don't have the spreadsheet ability to set up your own amortization tables to make the comparison, there are snowball calculators on the web that can help you with the costs of the 2 different scenarios.

AJ

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Author: Lea77 Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305802 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 2:42 PM
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I'm with PSU - I go with the math.

I would probably go the smallest first if the interest was negligible simply because it's easier to keep up with one payment over two.

I take it rolling debt into 0% offers isn't an option?

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Author: PSUEngineer Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305803 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 2:49 PM
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If $25 extra in total interest payments is not important, then why use 25 cent off coupons in the grocery store?

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Author: JAFO31 Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305804 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/23/2012 3:17 PM
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I have already recced aj485's post, but this bears repeating:

I think you are missing the point of looking at the total interest you will pay for both loans, given the amount of money you have to devote to the payments."

Regards, JAFO

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Author: MakingTrax One star, 50 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305818 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/26/2012 8:40 PM
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FlippoHip

Considering the original question, which would I pay off first? There are a few factors I would consider other than interest rates alone. I call them “risk management” factors.

If a reasonable emergency fund is in place, I would consider paying down the balances on either debt so that...if the interest rate got bumped up, that I could pay the amount off if needed. For example, if I had $3300 on Card 1 and $12,100 on Card 2, and $10,000 sitting in an e-fund, I would probably work to pay down Card 2 as quickly as possible so that the balance was under $10,000. If any problem were to come up with Card 2 at that point, I could simply pay it off with the e-fund. There is a level of security knowing that you “could” pay it off if you needed to at that point.

Along that theme, I would consider my balance transfer options. Instead of an e-fund fall back, if I had another card (say Card 3) with a credit line of $9500…then I would want to pay down Card 2 to leave open the possibility that I could do a balance transfer with Card 3 within its available line of credit (in case a problem came up with Card 1 or 2, or if a better interest rate was available). Similarly, if paying off Card 1 (the lower balance card) could open up the possibility of getting a lower interest rate balance transfer on that card….then I would pay it off ASAP and hope for a good BT option.

Finally, I would also consider the way in which the minimum payment calculation is determined and pay down the one that has the higher percent payment. From a “risk” standpoint, that would help me if my cash flow situation were to suddenly change. For example, if Card 1 (lower balance) requires a 2% minimum payment and Card 2 (higher balance) requires a 1% minimum payment, I might consider paying off Card 1 first simply to be in a position where my monthly minimum payments are “minimized” in case of a cash flow crunch.

These factors may or may not apply to you. But I would take them in to consideration for myself to manage my risk and comfort level.

All factors being somewhat equal, personally I would probably accelerate payments on Card 2 to bring it down to some perceived “manageable” number (like $10,000 balance or $80 monthly interest or $150 minimum payment – some target to make me feel like I accomplished something). Then at that point, I would probably pull money from savings (or shift snowball) to pay off Card 1 ASAP because the balance would be considerably lower at that point and it could probably be eliminated relatively quickly. And then I would go full steam on paying down the remainder of Card 2, looking for BT opportunities along the way.

That's my point of view.


Making Trax

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Author: xtn Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305842 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/31/2012 10:30 AM
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AJ is, of course, right.

I like to think of it as one total debt, not two separate cards. Imagine you just had one card, with one portion of the debt at X% rate, and another portion at a higher rate. Now which hunk do you want them to apply your payments too? Anybody with any sense has got to say the hunk with the higher rate.

xtn

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Author: vkg Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305843 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 8/31/2012 1:16 PM
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If $25 extra in total interest payments is not important, then why use 25 cent off coupons in the grocery store?

It depends on the value to the OP. If paying down the larger loan keeps the OP on target of decreasing debt and feeling better about it, then the $25 could be worth it.

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Author: SeattlePioneer Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305844 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/1/2012 11:52 AM
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<< If $25 extra in total interest payments is not important, then why use 25 cent off coupons in the grocery store?>>


Heh, heh! There's this branch of social science called psychology....




Seattle Pioneer

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Author: PSUEngineer Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305852 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/4/2012 10:26 AM
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It depends on the value to the OP. If paying down the larger loan keeps the OP on target of decreasing debt and feeling better about it, then the $25 could be worth it.

The point I was making was in response to it being easier to keep up with one payment over two. IMO, it is easier to keep up with two payments than clip 100 $0.25 coupons and use them at the grocery store. The coupons would take a lot more time and organization than paying two CCs instead of one.

PSU

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Author: vkg Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305853 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/4/2012 11:21 AM
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The point I was making was in response to it being easier to keep up with one payment over two. IMO, it is easier to keep up with two payments than clip 100 $0.25 coupons and use them at the grocery store. The coupons would take a lot more time and organization than paying two CCs instead of one.

I understand your comparison, but financial decisions are not completely based on cost. If paying down one account over another keeps the OP on target of paying down debt, it could result in saving more than the $25.

If payments are made by mail, then keeping two accounts could cost more than the $25.

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Author: PSUEngineer Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305854 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/4/2012 12:40 PM
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If payments are made by mail, then keeping two accounts could cost more than the $25.

I'm a person driven by math. I will take the cheaper route. Now I understand some people need alternative approaches because it makes them feel good. But if that is your approach, then just say it and don't justify it will pseudo math. Credit card statements come with a nice convenient return envelop. Assuming a 50 cent stamp, that is 100 months of payments by mail before it exceeds the $25. 100 months is over 8 years of stamps.

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Author: vkg Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305856 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/4/2012 2:05 PM
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then just say it and don't justify it will pseudo math. Credit card statements come with a nice convenient return envelop. Assuming a 50 cent stamp, that is 100 months of payments by mail before it exceeds the $25. 100 months is over 8 years of stamps.


You slipped on your math. 100 month at 50 cents is $50 dollars. $.45 a month is $5.40 a year. Assuming no increase in postage, $25 in postage would be 4.6 years.

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Author: PSUEngineer Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305860 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/4/2012 2:42 PM
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You slipped on your math. 100 month at 50 cents is $50 dollars. $.45 a month is $5.40 a year. Assuming no increase in postage, $25 in postage would be 4.6 years.

Yeah, I did. I had the 25 cent coupons on my brain when I quickly did the math. So the period is half what I post. Still, if someone is making accelerated payments (more than minimum), I wouldn't expect it would take more than 4.6 years to pay the highest interest one off unless their extra cash added to the payment is small.

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Author: vkg Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 305861 of 308722
Subject: Re: Interest Rate V. Amount owed Date: 9/4/2012 3:04 PM
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I wouldn't expect it would take more than 4.6 years to pay the highest interest one off unless their extra cash added to the payment is small.

In the calculations for the $25, I didn't see the payoff time. Given the amount of debt, it would be unlikely to take 4 years to pay of the smaller (current higher interest) account.

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