What Debt to Pay Off First: Prioritizing Debt on a Limited Budget

If you’re drowning in debt, the question of “what debt to pay off first” likely keeps you up at night. With multiple looming balances, it’s hard to know where to start chipping away.

The stress of juggling minimum payments while interest piles up is enough to make anyone feel overwhelmed. But paying off debt doesn’t have to be such a mystery. Read on to discover the most popular ways to pay off debt—even when money is tight.

Prioritize tax debt and collections 

When it comes to paying off debts, you should focus on clearing tax debts and debts that are in collections. For instance, you might address tax debts owed to the IRS first because failing to pay can lead to severe consequences like wage garnishment or legal action.

Addressing these debts first can help minimize escalating legal or financial problems. It can also lower your financial stress and allow you to focus on other debts without looming threats.

Try the debt avalanche and snowball methods 

The debt avalanche method focuses on paying off your highest interest rate debt first. You start by listing your debts in order of interest rate, from highest to lowest.

You focus on the debt with the highest rate while maintaining minimum payments on the others. Once that’s paid off, you move onto the debt with the next highest interest rate until they’re all paid off.

This method is financially efficient because it can save you more interest over time. It’s ideal if you’re motivated by long-term savings and can maintain discipline. However, your initial progress may seem slow compared to methods like the debt snowball.

The debt snowball method 

The debt snowball method is a debt repayment strategy designed to build momentum and motivation. It involves listing all your debts from smallest to largest, regardless of interest rates.  

You pay off the smallest debt first while continuing to make minimum payments on your other debts. Once the smallest debt is cleared, you move to the next smallest, rolling the previous payment amount into it.  

The debt snowball method is particularly effective if you feel overwhelmed by debt as it offers quick wins that help boost motivation. Its quick, tangible progress can help you stay committed. But it may not always be the most cost-effective in terms of interest saved. 

Read more: Debt Snowball or Debt Avalanche: Which Method Is Right for You?

Categorize debts by type 

With this next method, you categorize your debts by type—like credit cards, student loans, or personal loans—and focus on repaying one category at a time. You get to choose the criteria for how you prioritize debt.

For instance, you could focus on the lender with the strictest late payment fees or most aggressive collection practices. You might start with high-interest credit cards, then move to private student loans, and end with federal loans.

Transfer balances 

A balance transfer happens when you move debt from a higher-interest account to another account with a lower interest rate. People often use balance transfers to help manage credit card debt. You transfer the balance to a new card with a lower introductory rate—oftentimes 0%. This reduces the amount of interest you pay and possibly lowers your monthly payment.  

But be cautious: balance transfers can give a false sense of progress as you shift debt, not eliminate it. Make sure you can pay off your balance before the introductory period ends, and be aware of potentially rising rates and transfer fees. 

Consolidate debts 

A debt consolidation loan combines multiple debts into one loan, ideally with a lower overall interest rate. Instead of juggling several payments with varying interest rates, you manage one monthly payment.

But know that getting a new loan could extend your repayment period, and you’re not guaranteed to get a lower interest rate. Still, it can be a good option if you’re overwhelmed by managing multiple debts and want to streamline your finances.

Target revolving debts 

Credit cards and lines of credit differ from loans because you don’t pay them off in a set number of payments. You also usually pay high interest on these debts.

By prioritizing these debts, you can significantly improve your credit utilization ratio, which is a key factor in your credit score.

This ratio looks at how much credit you use compared to your total available credit limits. Paying off credit card debt reduces your utilization ratio, directly boosting your credit score.

Consider your long-term goals 

As you decide what debt to pay off first, don’t forget about your broader financial goals, like saving for retirement, buying a house, or investing in education. These goals can help you decide how much to put toward paying off debt versus other goals.

For instance, if saving for retirement is a priority, you might choose to split funds 50/50 between paying off debts and contributing to a 401(k). Or, if you don’t have an emergency fund, you may focus your money on building up that buffer before you start on debt.

The key is finding a balance that chips away at your debts while progressing toward goals. With some planning, you can make strides in both areas at once.

Monitor credit and adjust accordingly 

Your credit score is influenced by factors like payment history, credit utilization, and the types of credit you have.

Regularly monitoring your score can show how your debt repayment is helping you establish good credit. It can also help you catch any errors on your report that might be dragging your score down.

This can be helpful if you’re working towards financial goals that require good credit, like buying a home.

How to prioritize debt and get started 

As you think about which debt to pay off first, don’t get too hung up on picking the “perfect” repayment method. The most important thing is that you get started.

Choose whichever debt pay-off strategy feels most manageable right now—whether it’s tackling smaller debts first or getting a debt consolidation loan to simplify monthly payments.

You have the flexibility to switch things up at any time as you journey toward debt freedom. What matters most is taking that first step today.

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