Researchers have found the best way of repaying debts

Researchers have found the best way of repaying debts

Researchers from Harvard University came to the conclusion that the so-called “snowball” method is very effective when it comes to the repayment of debts, states Business Insider. According to the data, provided by the Federal Reserve System, almost half of the families in the U.S. cannot repay their debts. The data, used by the researchers came from  HelloWallet, a company specialized in financial services. The research was based on data, that was received in 36 months, including monthly credit card data of 6.000 HelloWallet clients, who were determined to pay down their accounts or at least manage them effectively. It appeared that those who were focused on discharging one certain credit were more effective than those who tried to distribute their payments among multiple debts.

Snowball method

The researchers arranged an experiment to prove their theory, according to which the interest rate after the repayment is much more important than the actual payment amount. The participants were given a task to pay off virtual “debts”. The first experiment was aimed at finding out what was more effective: paying off credits that carry highest or the lowest interest rates. Some of the participants had their credits divided into 5 separate accounts, while the rest had just one account to pay off. At that they were all promised financial reward in case they successfully paid off all their debts. The participants were divided into 2 groups, first of which was supposed to pay down multiple accounts one at a time, and those who had to repay one and the same debt. The experiment proved that those who had to repay just one single account showed 15% better results than their counterparts. The second experiment was aimed at testing the thesis, according to which the people, who were focused on the repayment of one single account are more effective in their efforts than those who tried to wipe off several accounts. Additionally, this group of participants had higher motivation.

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In the course of the third experiment, the researchers found out that neither the payment amount nor the remaining account influence the speed of repayment. They came to the conclusion that people are best motivated by the fact that a part of debts is already successfully wiped out. Thus, the group, focused on the repayment of credits with the lowest balance was more successful than its counterpart. 

Scheme of debt repayment

One of the organizers of the experiment suggests the following scheme of debt repayment:

  • Calculate an amount that you can spend to the repayment of your debt at the present moment. The more you repay now, the less you’ll have to pay in the future.
  • Find out how much money can be added to the minimal amount of monthly payments.
  • Start paying off your debts from the largest to the smallest ones. the same rule applies to interest rates and minimal monthly payments.

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