What to clear first?

daina

Hi All

After a wee bit of advice. I have a lot of debt - credit cards, overdrafts and a loan that's about to finish middle of next year.

I'm selling my house and will have a surplus (not a lot - about £2k) so I want to use it to pay off debt and wondered what I should pay off first? The highest interest is on my credit card BUT that will only free up about £50 a month. If I clear my loan I'll have about £190 a month (but there's not much interest on it.) My gut was to go for the loan, but any advice appreciated.

Thanks!

steeeb

Can you be more specific with the amounts and rates so the best advice can be given?

timbstoke

I know on strict MSE advice you should always go for the highest interest first, but its not set in stone. For example, if the £190 you save on the loan goes straight towards the credit card, you'll still clear that a lot quicker, so the total interest might be lower than maintaining the loan for its full term. On the other hand, the T&Cs of your loan may not allow you to just increase payments by £50 a month to reduce the term.

It isn't always a money question either - sometimes it's about ease of management of your own finances. It can be psychologically empowering to pay off a small debt completely rather than make a dent in a larger account.

For example, I have two credit cards and an overdraft. The credit cards have the higher interest, but I'm focussing my efforts on the overdraft. Why? Two reasons:

1. That last week of the month is always a tough one, and when I've focussed on the cards I've often had to 'dip in' to them again. If it's just the minimum payment, the cards can live in a drawer where the temptation to use them isn't there anymore, and when I know "I haven't made an extra payment to that account this month" I know there isn't any extra money there to fall back on in an emergency.

2. The overdraft is at the level where it's cleared each month before I eat into it again a few weeks later. Without the added payment to the credit cards, I should clear the overdraft by Christmas. That will give me a £0 'baseline' in my current account, rather than the added confusion of "I was £400 overdrawn last month but I want to try and clear £50 of that so I can only really go £350 over this month". When it's gone, there's a clear psychological barrier where I start to use money that "isn't mine", which will make budgeting for everything else a lot easier.

National_Debtline

Hi daina

A couple of things to bear in mind here:

Are you allowed to settle the loan early without any penalty? Please note that any interest payable is normally "front-loaded" i.e. it is tacked on to the loan amount you have borrowed as soon as the repayments begin.

The credit card balance, on the other hand, will be accumulating interest on an ongoing basis so you might decide it makes sense to pay a big chunk off that balance if not clear it altogether. It also frees up more of its credit limit for use in the event that an emergency later arises.

Regards

Dennis
@natdebtline

daina

Hi,

Thanks all for your advice. :j

I phoned up the company I have my loan with and there's no fixed penalty to leave, and I also got a settlement figure which was lower than I'd expected. I was aware that the interest is mostly at the start of a loan and decreases the further down the line you are. I've had this loan for just over 4 years and have about another 10 payments to make.

My thinking behind clearing it is exactly what timbstoke said - I'd free up more funds to put towards the credit card debts. At lunchtime I worked out what credit card was the highest APR and decided to pay that one off first (luckily it also has the smallest outstanding debt on it.)

I filled in a snowball calculator that's helped a lot, so yes I think also from a psychological point of view I'd rather pay of the loan and then with that money put it all towards the highest interest credit card, and work backwards from there.

My only other concern is that I have 2 overdrafts, one charges £30 a month, and the the other £20 a month. Would I be better paying that off before the credit card? The (highest interest) credit card details are - outstanding £2950, apr 18.94%, interest per month approx £42 and the payment per month is £60.

Moneymash

I had to make a similar decision last year, my last CC had a balance of £3803.05 at 14.9% and my loan had a balance of £4834 at 14.1%. The thing was my CC minimum payment was about £60 and my loan repayment was £285.10. I decided I wanted the security of lower monthly outgoings. If I couldn't work or there was some other emergency it would be much easier to find/scrape together £60 (through eb*y, carboot, surveys, being frugal) than struggling to find £285.

So although my loan was the lower apr, but higher amount, I set about overpaying that first. I ended up paying it off a year early and used the saving to put towards the CC.