A client aged 36 carries four debts: a credit card with a balance of 12,000 dollars at 22.99 percent, a second credit card with a balance of 4,000 dollars at 17.99 percent, a car loan with a balance of 18,000 dollars at 6.90 percent, and a student loan with a balance of 25,000 dollars at 5.05 percent. None of the debts carries a prepayment penalty. The client has 500 dollars of surplus cash each month and will continue to make the required minimum payment on every debt regardless of where the surplus goes. If the client's stated objective is to pay the least total interest over the life of the four debts, where should the 500 dollars be directed each month?
- ATo the 12,000 dollar credit card at 22.99 percent, because that debt carries the highest interest rate of the four Correct
- BTo the 4,000 dollar credit card at 17.99 percent, so that one balance disappears within months and the freed minimum payment rolls forward
- CSplit the 500 dollars across all four debts in proportion to each balance, so that every debt falls at a similar pace
- DTo the 25,000 dollar student loan at 5.05 percent, because that debt has the largest balance and the longest remaining term
Why A is correct: Directing every surplus dollar to the highest rate balance while paying minimums elsewhere is the debt avalanche, and it produces the lowest total interest because each dollar of principal repaid removes future interest at the highest rate available.
Why B is wrong: Clearing the smallest balance first is the debt snowball, and the early win it produces genuinely helps clients who abandon repayment plans. It sacrifices interest, because every month the surplus sits on the 17.99 percent balance the 22.99 percent balance keeps accruing at the higher rate, so it does not meet an objective stated in terms of total interest.
Why C is wrong: Spreading the surplus feels even handed and reduces every balance at once. It leaves the highest rate balance outstanding for longer than any focused approach would, and total interest is driven by how long expensive money stays borrowed, so this is the weakest of the four for the stated objective.
Why D is wrong: The largest balance does generate the largest dollar amount of interest in the first month, which makes it look like the expensive debt. Interest accrues on each balance at its own rate, and attacking the cheapest rate while a 22.99 percent balance runs produces the highest total interest of any single target choice.