Debt

Okay, this part is less fun, but once you understand how to manage debt, you can use it to your advantage.

The most common types of debt, especially for most folks reading this, are student loans, car loans, and credit card debt. Each has its own characteristics and strategies for paying off.

Understanding Interest

Speaking of interest rates, let's make sure we're all on the same page. Compounding interest is amazing when it's working for you (like in investments), but it works against you when you owe money.

Interest is usually calculated on a monthly basis. Let's say you take out a $10,000 car loan with 4% APR and a 3-year term. Your monthly payment would be $295.24.

Adjust the loan amount, interest rate, and term to see how payments break down over time.

How Loan Payments Work

Each month, your payment is split between interest and principal:

Month Balance Interest (4%÷12) Principal New Balance
1 $10,000.00 $33.33 $261.91 $9,738.09
2 $9,738.09 $32.46 $262.78 $9,475.31
3 $9,475.31 $31.58 $263.66 $9,211.65
... ... ... ... ...
36 $294.26 $0.98 $294.26 $0.00

Notice how early payments are mostly interest, but over time more goes to principal. That's because interest is calculated on the remaining balance—as the balance shrinks, so does the interest.

Total paid: $295.24 × 36 = $10,629 (the original $10,000 plus $629 in interest)

Depreciation Matters

Another thing to consider is whether the item you took a loan out for is something that depreciates (loses value over time). Cars lose value quickly—a new car might lose 20% of its value in the first year alone. Houses, on the other hand, historically appreciate over time.

Payoff Strategies: Avalanche vs. Snowball

If you have more than one loan and some extra money at the end of the month, you might wonder which loan to pay off first. There are two popular methods:

The Avalanche Method

Pay extra toward the loan with the highest interest rate first, regardless of balance. This saves you the most money mathematically.

The Snowball Method

Pay extra toward the loan with the lowest balance first. This gives you quick wins and psychological momentum as you eliminate debts one by one.

Which is better? Mathematically, Avalanche wins. Psychologically, Snowball might keep you motivated. Choose the one you'll actually stick with—both are better than paying minimums on everything.

Enter your actual loans to see how much you could save with each strategy.

Types of Debt

Learn more about specific types of debt: