Debt Payoff: Which Debt to Clear First, and What It Saves
Debt Payoff works out how long several debts take to clear and what they cost in total, under two different orderings. Enter each debt with its balance, its rate and its required payment, then enter one monthly amount. The tool runs the required payments first and puts everything left over against one debt, either the costliest or the smallest.
Those three steps are the whole of it. The calculator takes numbers the household already has, puts each one in a named place, turns the handle, and prints two results side by side. Definitions of a card, a pay-later plan and a loan from a relative sit under their own subjects.
Households are commonly told that one of the two orderings is the right one. Somebody will have said pay the expensive thing first, and somebody else will have said clear the small one for the feeling of finishing. Both are describing something real. The honest way to settle that argument is to measure it rather than to win it, so the tool runs both orderings. The measurement turns out to be much smaller than the argument.
Everything below runs on one household, the invented Bhosale household, and its three debts at 31 March of an unnamed second year. Every rupee belongs to that household and to nobody else. Every rate on the sheet is a term that household contracted for, and a different set of terms would move every number the tool prints.
What does this working tool compute?
Four things go in and two things come out. In go each debt's balanceWhat is owed on one debt right now, before anything further is charged or paid., each debt's rate, each debt's required paymentThe minimum or instalment that one debt demands each month, whether or not anything more is paid., and one monthly amount for all of them together. Out comes the number of months until every balance is nil, and the total number of rupees handed over on the way, computed twice: once with the leftover money aimed at the costliest debt, and once with it aimed at the smallest.
The second output is the one people misread, so it is worth being precise about. The total is not the interest. The total is everything paid: the debts themselves plus whatever charge accumulated while they were being cleared. So the total is always larger than what is owed today, and the gap between the total and what is owed today is the entire cost of taking time.
The whole output is two runs, four numbers, and one subtraction between them. The rest of the work is finding each input on a document and reading the two results honestly.
Where does each debt's balance come from?
Off the most recent document each lender sent, and nowhere else. Not off memory, not off a rough idea, and not off what was borrowed originally. Every one of those three will be wrong, usually in the direction that feels better.
For a card, the balance is the closing figure printed on the latest statement. For the Bhosale household that is Rs 48,594/- on the card at 31 March. For an instalment plan, it is the instalments still to run, and the provider's schedule sets those out. Ira Bhosale's school tablet was taken on a plan of three instalments of Rs 4,000/-. One instalment has been paid, so Rs 8,000/- remains. For a loan from a person rather than an institution, there is no document, so the balance is whatever the two parties agree it is. Ashok Bhosale's brother lent Rs 15,000/- with nothing written down, and Rs 15,000/- is what goes in the field.
The three balances add to Rs 71,594/-, and that figure is the only honest starting point the tool has. A sheet built from remembered numbers computes a fiction very precisely.
The document matters more than it looks. A charge lands on a date the household did not pick, so a card balance moves between the statement date and today. A remembered balance is nearly always the balance from before the last charge. Enter the printed figure, and note beside it the date it was read. A surprising result can then be traced either to the arithmetic or to the input.
Where does the card balance come from for a sheet like this?
What goes in the rate field when a debt states no rate?
Nil goes in the field, and the real cost goes on a note beside the sheet in handwriting. Entering the nil and writing the note are two separate acts, and both are required.
The card states a rate, so the card is easy. The Bhosale household's card carries 3.5 per cent a month on the whole balance once the card is not cleared in full. The rate is a contracted term, printed on the card's own paperwork, and it goes straight into the field.
The other two state nothing. The pay-later plan for the tablet was sold with nothing described as interest at all. The loan from Ashok Bhosale's brother has no rate, no written date and no schedule. Both are unpriced debtA debt whose real cost cannot be written as a rate per month, either because the cost only appears when something goes wrong or because it is not paid in money., and the tool has no field that can hold what they actually cost.
Entering nil is a statement about what this tool can express, and it is not a statement that the debt is free. The plan is not free. The plan carries a late fee of Rs 500/-, and one instalment on it was paid 40 days late. Put that fee against the Rs 4,000/- instalment it was charged on and it is 12.5 per cent for 40 days. The 12.5 per cent, annualisedStretched out to a full year so that costs charged over different lengths of time can be compared. A charge for 40 days multiplied by 365 divided by 40 gives the yearly equivalent. on a simple basis, is about 114 per cent a year. The fee costs nothing at all until something goes wrong, and then it is enormous, so no rate field can carry it honestly.
The pay-later plan states no interest. What goes in the rate field?
Where is each required payment found, and does it stay still?
On the same documents, one line further down, and no, one of them does not stay still.
The pay-later plan demands a fixed Rs 4,000/- a month until it ends. The Rs 4,000/- is an instalmentA payment fixed in advance at a set amount for a set number of months, so it does not change as the balance falls., and an instalment behaves exactly as it looks. The loan from Ashok Bhosale's brother demands nothing at all, so nil goes in that field, and the reason it demands nothing is that nobody wrote anything down.
The card is the awkward one. Its minimum is a share of the statement balanceThe full amount printed on a statement after that month's charge and any new spending have been added, before any payment is made., so it moves every month. The Bhosale household's card asks for 5 per cent of the statement balance, subject to a floor of Rs 200/-, again its own invented contracted term. The March statement carried the month's charge of Rs 1,527/- and Rs 6,000/- of new spending on top of a Rs 43,625/- opening balance, and 5 per cent of it came to Rs 2,558/-. Rs 2,558/- is what the last statement demanded, so Rs 2,558/- is what goes in the field.
The moment nothing further is charged to the card, its required payment starts falling, and the tool recomputes it every month rather than holding the entered figure still. On Rs 48,594/- with no new spending the first month's charge is Rs 1,701/-, the statement is Rs 50,295/-, and 5 per cent of that is Rs 2,515/-. Enter Rs 2,558/- because that is the printed demand today; the run below uses Rs 2,515/- for month one because that is the demand once the spending stops.
Where do the real documents behind these fields come from?
On a real sheet, the balance, the rate and the minimum come from the lender's own statement and terms, and what a lender must disclose and how it must behave when a borrower is in difficulty sits in the customer conduct material published by the Reserve Bank of India at rbi.org.in. The credit information companies hold what a lender reports about a repayment.
How much can the household find in a month, and who decides that?
The household does. The tool has no view on it, cannot form one, and will never print one.
Most payoff sheets quietly do the opposite. Those sheets prescribe a payment, then compute how good the payment looks. The monthly amount is an input here in exactly the way a balance is an input, and the computation runs from it. If the amount changes next month, the run is done again. The debts share one pot, so the single number entered is the total for all the debts together rather than one figure for each.
The Bhosale household's position sets the size of that pot and nothing else does. Net income for the year was Rs 5,30,400/-, or Rs 44,200/- a month. The two-wheeler loan of Rs 3,150/- a month ended in January, on schedule, with its thirtieth instalment. Committed outgoings ran at Rs 37,920/- a month while that loan was being paid and stand at Rs 34,770/- a month from February. Counting the once a year items at Rs 8,000/- a month, money out at 31 March is Rs 42,770/- against Rs 44,200/- in, so Rs 1,430/- is what the pot actually holds. A debt ended and the position still did not close. Of the Rs 3,150/- the instalment released, Rs 1,720/- went on closing a month that was already not closing, and the Rs 1,430/- left over is less than the Rs 1,701/- the card adds each month. The pot holds what is left over, and no arithmetic can manufacture more of it.
The worked runs below use Rs 6,500/- a month. Rs 6,500/- is a round number that makes the arithmetic legible, chosen for that reason and no other, and larger than the Rs 1,430/- the Bhosale household's own pot holds.
How does the tool spend one month?
In four steps, always in the same order, and only the fourth step has anything to do with the ordering question.
Step one, the card's charge is added. The charge is worked on the balance sitting there at the start of the month, and it goes on before any payment is considered. Step two, every debt takes its required payment. Step three, if the money runs out during step two, the debts that come later take what is left of what they asked for. Step four, whatever is still in hand after every required payment is the surplusWhat is left of the monthly amount once every debt's required payment has been made. The whole of it goes to one debt., and the whole of it goes to exactly one debt.
The orderingWhich single debt receives the surplus after every required payment has been made. The ordering changes nothing about the required payments themselves. decides step four and nothing else, which is why it can only ever be worth what step four is worth. In the Bhosale household's second month at Rs 6,500/-, step one puts Rs 1,672/- on the card, step two takes Rs 2,473/- for the card minimum and Rs 4,000/- for the plan instalment, and step four has Rs 27/- to place. Twenty seven rupees is the whole of the ordering decision in that month.
The surplus does not stay that small. By the fifth month the plan has gone, the card's minimum has fallen with its balance, and step four has Rs 4,581/- to place. Every rupee that stops being a required payment becomes a surplus rupee instead, so the surplus starts as a rounding error and becomes the main event. Every payoff has that shape.
Rs 6,500/- a month against required payments of Rs 6,558/-. What does the tool do?
What is costliest first actually doing?
Costliest first removes the fastest-growing thing on the sheet before it can grow any further.
The everyday version runs like this. A household has two taps left running. One is a trickle and one is a jet. If only one tap can be closed this month, the jet is the one where closing it changes how much water is on the floor next month. Closing the trickle feels like progress and changes almost nothing about the rate the floor is filling.
On the Bhosale household's sheet there is exactly one tap running. The card adds 3.5 per cent of its balance every month, so at Rs 48,594/- it is adding Rs 1,701/- in the first month on its own. The plan adds nothing, and the loan from Ashok Bhosale's brother adds nothing. Aiming the surplus at the card is not a preference about cards; it is the arithmetic consequence of the card being the only line on the sheet that grows.
Costliest first costs patience. Under costliest first, the loan from Ashok Bhosale's brother sits untouched at Rs 15,000/- for ten months while the card is worked down. Ten months is a long time to owe money to somebody the household will see at a wedding.
What is smallest first actually doing?
Smallest first clears lines rather than clearing charge, and there is a real thing on the other side of a closed line.
Under smallest first, the surplus goes to whichever balance is nearest to nil. On this sheet the nearest balance is the pay-later plan, which finishes in month two rather than month three, and then the Rs 15,000/- from Ashok Bhosale's brother, gone by month six. The card holds the largest balance, so the card waits.
The cost of that patience with the small lines is that the card keeps adding 3.5 per cent to a balance that has barely moved. Under costliest first the card is down to Rs 31,882/- by the end of month five. Under smallest first the card is at Rs 44,659/-. The gap is Rs 12,777/-, and every rupee of it is charge added because the balance was still there to charge.
Smallest first buys two fewer open lines and one conversation ended early, and it pays for them in card charge. That is a trade a household is allowed to make. The calculator supplies the price of the trade.
What is aiming the surplus at the costliest debt actually doing?
What happens to a payment when its debt finishes?
The payment goes to the next debt, immediately and in full. Moving a finished debt's payment straight on is rollingRedirecting a cleared debt's payment straight to the next debt instead of letting it return to general spending., and rolling is the reason a payoff accelerates instead of running at a constant speed.
When the pay-later plan finishes, its Rs 4,000/- does not go back into the shopping. The Rs 4,000/- joins the surplus. When the card's minimum falls from Rs 2,515/- to Rs 1,919/- because its balance has fallen, the Rs 596/- difference joins the surplus too. Nothing is released and nothing is celebrated by spending it.
Rolling is what turns Rs 27/- of surplus in month two into Rs 4,581/- by month five, and it is the single assumption in this tool that a household has to actually keep. The arithmetic assumes it without asking. Real life does not enforce it. If the Rs 4,000/- quietly becomes groceries the month the plan ends, every number the tool printed is wrong by a lot, and it will be wrong in the direction of optimism.
The pay-later plan clears. What happens to its Rs 4,000/- a month?
What does the choice between the two orderings actually save?
On this sheet, at this monthly amount, one month and Rs 4,857/-. The gap is smaller than almost everybody expects, and it is worth reading twice.
Costliest first clears all three debts in 13 months and hands over Rs 83,114/- in total. Smallest first takes 14 months and hands over Rs 87,971/-. Both start from the same Rs 71,594/- and both pay the same Rs 6,500/- a month. The only thing that differs between the two runs is which debt received the surplus.
Now do the subtraction that makes the difference legible. Rs 71,594/- plus Rs 11,520/- is Rs 83,114/-, so under costliest first the total charge across the whole payoff was Rs 11,520/-. Rs 71,594/- plus Rs 16,377/- is Rs 87,971/-, so under smallest first the charge was Rs 16,377/-. The card is the only line on the sheet that carries a rate at all, so the entire Rs 4,857/- difference is card charge.
One more thing the comparison shows, and it is the part nobody puts on a chart. Under smallest first the loan from Ashok Bhosale's brother is settled in month six. Under costliest first it is settled in month thirteen. Seven extra months of owing money to a person rather than an institution is a real cost that appears in neither total.
Costliest first against smallest first, on the same three debts at the same Rs 6,500/- a month. The slider below sets the amount, and the distance between the two finishing points is what it moves.
Move the monthly amount and watch both orderings redraw together.
One thing moves: the single monthly amount for all three debts. Both orderings are computed from it at the same instant, so neither appears without the other. The panel opens at Rs 6,500/- a month and reproduces the worked run above exactly. In the two lower bars, the gap between them is the entire ordering question, and it shrinks as the amount rises.
What is worth fifteen times more than the ordering?
The monthly amount. Not slightly more. About fifteen times more, on the same sheet, measured the same way.
Take the card on its own and leave the ordering question completely alone. At Rs 48,594/- charged 3.5 per cent a month, paying only the minimum it demands each month and never a rupee more clears the card in 183 months, or fifteen years and three months, and hands over Rs 1,44,757/- against a balance of Rs 48,594/-. Almost three times the debt. Paying Rs 3,000/- a month instead clears it in 25 months for Rs 72,988/-.
The distance between those two rows is 158 months and Rs 71,769/-, and it was bought with roughly Rs 485/- a month above the minimum. The ordering, on the full sheet, was worth Rs 4,857/-. Rs 71,769/- divided by Rs 4,857/- is a shade under fifteen.
Now compare the two rows above that: Rs 4,000/- a month clears the card in 17 months for Rs 64,390/-, and Rs 5,000/- a month clears it in 13 months for Rs 60,434/-, a distance of 4 months and Rs 3,956/-. So the gain is not evenly spread either. Almost all of it sits in the first rupee above the minimum, and it thins out fast after that. For a household with very little room, the first small step above the minimum is worth far more than every step after it.
| Paid each month on the card alone | Months to clear | Total handed over |
|---|---|---|
| Only the minimum it demands | 183 | Rs 1,44,757/- |
| Rs 3,000/- | 25 | Rs 72,988/- |
| Rs 4,000/- | 17 | Rs 64,390/- |
| Rs 5,000/- | 13 | Rs 60,434/- |
| Distance from the minimum to Rs 3,000/- | 158 | Rs 71,769/- |
The ordering is worth Rs 4,857/-. What is the monthly amount worth, on the card alone?
The failure this sheet is most often built with
Leaving the rate field blank on a debt that states no rate, and then reading the printed answer as though those debts were free.
Two of the three rows on the Bhosale household's sheet state no rate, and the tool cannot tell the difference between nil and free. The tool computes the same answer either way. The household is the only party in the room that knows the difference, so the note beside the sheet is not optional decoration.
The pay-later plan is not free. The plan carries a late fee of Rs 500/-, and one instalment on it was paid 40 days late. Rs 500/- against a Rs 4,000/- instalment is 12.5 per cent for 40 days, or about 114 per cent a year on a simple annualisation. A cost like that is invisible until the day it is not, and then it is larger than anything else on the sheet.
The Rs 15,000/- from Ashok Bhosale's brother costs nothing in money and something in every other currency, and the tool prices rupees and nothing else. There is no rate to enter because there is no rate. There is no schedule to enter because nobody wrote one. The loan is paid for at weddings and in the length of pauses on phone calls, and no sheet holds a column for either. Write the cost out in words beside the sheet anyway. Then, when the tool calls this the cheapest debt, what the sentence leaves out is still visible.
The Rs 15,000/- from Ashok Bhosale's brother has no rate and no schedule. Is it the cheapest debt on the sheet?
What happens when the monthly amount does not cover the required payments?
The tool says so, in plain words, and stops pretending. The shortfall message is the output produced most often for real households, and a shortfall is a finding rather than an error.
The Bhosale household's own sheet shows it. The card's last statement demanded Rs 2,558/- and the plan demands Rs 4,000/-. Together that is Rs 6,558/- a month before a single rupee of surplus exists. The worked runs in this guide use Rs 6,500/-. Rs 6,500/- is Rs 58/- short of what the two documents demand today, and the tool says so rather than quietly rounding the gap away.
The runs still complete, and the reason is worth understanding. The card's minimum is a share of the statement, so the moment nothing further is charged to the card it falls, from Rs 2,558/- to Rs 2,515/- in the first month. Even then Rs 6,500/- is Rs 15/- short, so in the first month the plan instalment is paid short by Rs 15/- and that Rs 15/- has to be found later. Under costliest first that Rs 15/- is why the plan takes three months to finish rather than two. A shortfall of Rs 15/- moved a whole clearing date. A rough mental estimate never catches a gap that small, and arithmetic always does.
If the shortfall on a real sheet is not Rs 58/- but Rs 5,800/-, the answer is still not that the arithmetic has failed. A shortfall that size means the sheet is telling the household something true that no repayment ordering can fix. How borrowing becomes inescapable, and what changes when the sums will not close, is covered separately.
Who runs a sheet like this in real life, and what they do with it
A lender assessing an application builds the same sheet from the other side of the desk. The lender lists every commitment it can see on a credit record, adds up the required payments, and sets the sum against income to get a ratio. On the Bhosale household's numbers, Rs 6,558/- of required payments against net monthly income of Rs 44,200/- is 14.8 per cent, and against gross monthly income of Rs 50,400/- it is 13.0 per cent. Which income was used changes the answer by nearly two points, so anybody quoting a ratio should say which one it is built on.
A money counsellor sitting with a household runs both orderings before the conversation starts, precisely so that the ordering argument can be settled in one minute rather than one hour. The useful move is to show that the two answers are one month apart, agree whichever one the household can actually keep to, then spend the remaining time on the monthly amount. The monthly amount is where the Rs 71,769/- lives.
The only input that reliably drifts is the card's minimum, and it drifts downwards as the balance falls, so a household runs the sheet once a quarter rather than once a year. Re-running it is how the rolling assumption gets checked against what actually happened.
What does the tool refuse to do?
Four things, and each refusal is deliberate rather than a gap somebody forgot to fill.
The tool refuses to choose an ordering, running both, printing both, and marking neither. If it picked one it would be pretending that Rs 4,857/- of card charge outweighs seven extra months of owing money to Ashok Bhosale's brother, and it has no way of knowing whether that is true for a given household.
The tool refuses to suggest a monthly amount, and takes the amount it is given. Income, outgoings, a buffer, a school fee falling due in June, and a counter whose takings depend on whether a lane is dug up are all invisible to it. A tool that suggests a repayment amount from three balances is guessing at everything that matters.
The tool refuses to price the two debts it cannot price. Nil in the rate field means nil in the rate field. The Rs 500/- late fee and everything the loan from a relative costs stay outside the arithmetic, by construction, with a note saying so.
For a great many households the true output of this computation is that the required payments cannot be met, so the tool refuses to treat a shortfall as an error. A shortfall is information rather than failure. The lane outside Ashok Bhosale's counter was dug up for five months and the takings fell by Rs 43,200/-. Nobody in that household chose anything. A sheet that scolded them for the resulting arithmetic would be both cruel and wrong.
Which ordering does this tool recommend?
References
| Source | Document | Where |
|---|---|---|
| Reserve Bank of India | Customer conduct material on lending, on what a lender must disclose about a credit facility and its charges, and on dealing with a borrower in difficulty | rbi.org.in |
| Reserve Bank of India | Material on credit card conduct, including what a statement must set out and how a minimum amount due is presented to a cardholder | rbi.org.in |
| Credit information companies operating in India | Each company's own published material on what a credit record holds about an outstanding balance and a repayment | each company's own site, reached from the list published at rbi.org.in |
| Central Board of Direct Taxes | Material on where a borrowing touches tax | incometaxindia.gov.in |
The Bhosale household, Meghna Bhosale, Ashok Bhosale, Ira Bhosale and Sahyadri Freight Services Private Limited are invented.
Educational material. Not advice on any investment, tax, budget or market position.