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We’re not sure what to make of a new study that suggests consumers should pay the smallest debts first. In examining data from a U.S. debt settlement company, researchers from the Kellogg School of Management found that closing a debt account—regardless of its balance—predicts whether consumers will stay out debt for good.
The study challenges thinking we’ve cited before from University of Michigan professor Scott Rick.
“It really seems like makes sense when confronted with multiple debts to eliminate one right away,” Rick said, “but there are more obscure attributes with debt, like interest rates, that make it not the right thing to do in some cases.”
In his study, Winning the Battle but Losing the War: The Psychology of Debt Management, Rick argued that going for the “quick win” of paying off a smaller debt first, even if it has a lower interest rate, won’t work for every consumer.
In fact, it can brainwash people into thinking they’re further along than they are. The real thing to focus on when paying off debt, he said, is a card’s interest rate, which can snowball more debt over time:
“If the smaller debt carries a higher interest rate, it makes sense to follow (Dave) Ramsey’s advice,” he said. “When it’s reversed, when the bigger debt has a higher interest rate, you should stop doing it.”
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