Deciding Which Debt To Pay First

Recently I heard someone on a talk show ask which debt to pay off first. This made me realize that everyone may not understand the impact of paying interest on a loan. I like examples so let’s use one for this.

Debt 1 - Owe $10,000. 5% interest rate. $10,000 x .05 = $500 interest payment every month.

Debt 2 - Owe $10,000. 10% interest rate. $10,000 x .10 = $1000 interest payment every month.

Debt 3 - Owe $10,000. 20% interest rate. $10,000 x .20 = $2000 interest payment every month.

Did you notice that the higher the interest rate, the higher the monthly payment? I used the same loan amount so that you could plainly see the affect of different interest rates on what you have to pay each month.

So, let’s say the $10,000 loan was for a car. On top of paying off the $10,000 which was the cost of the car, you are also going to have find an extra $500 a month at a simple 5% interest rate. But, if you have a 20% interest rate, you now have to find an extra $2000 a month. Ouch! At that rate you will have paid $10,000 in interest after only 5 months. That’s what the car costs!

Hopefully these little examples have given you a clearer picture about how interest rates affect what you pay on a loan. Check back soon for more tips.