debt is one of the most polarizing subjects in the realm of personal finance perhaps because people have achieved great financial success with such wildly differing debt situations from the average person keeping their debts to a minimum to the serial entrepreneur who racks up mountains of debts but still manages to achieve financial success due to the amount of income they are generating with that borrowed money and even The Savvy investor who manages to out earn their debt related expenses by a wide enough margin to succeed even though they're using a ton leverage in their Investments obviously all of these approaches have worked for people in the past and at times they have worked very well but while there is no denying that the financial ceiling is higher for those who utilize a ton of Leverage in one form or another the reliability of such an approach is a bit lower just due to the risks involved with having a larger cash outflow each and every month as a result there have been many strategies over the years dedicated to paying off one's loans the two most popular are of course the debt snowball and debt avalan lanch but those are not the only approaches that people have found success with today we're going to be talking about one of the other lesser known approaches to paying off your debts known as the cash flow index method and we're going to be looking at how it compares to the debt snowball and Avalanche in a variety of possible Financial situations but before we get going be sure to like this video if you haven't already as it really does help out the channel a lot and subscribe with notifications on for more money related videos like this one every single week and if you want to further support this channel you can check out some of the links I've left in the description below which includes a link to my patreon page this is the best way to show your support for this Channel and in addition to that you can also get early access to new videos and exclusive content such as spreadsheets based off the ideas we discuss in these videos the spreadsheets will allow you to play with your own numbers and see how big of a difference some of the ideas we discuss can make for your own personal financial situation so first things first what is the cash flow index method and how does it differ from the more common debt snowball and Avalanche strategy well it's really quite simple the cash flow index method focuses on freeing up your monthly Cash Flow by paying off your most cash flow inefficient debts first to determine which debts are your least efficient from a cash flow perspective you take your current loan balance and divide it by the current monthly payment for that loan the result is what I will refer to as your CFI score the higher the score the more efficient the loan is at least from a cash flow perspective so in other words those utilizing the cash flow index method are paying off their loans in order of lowest CFI score to highest CFI score for example if Jon had $5,000 in credit card debt at 20% interest with a minimum payment of $100 a month a $25,000 car loan at 8% interest with a minimum payment of just over $500 a month and student loans with a balance of $35,000 and a 5.5% interest rate with a minimum payment of just under $380 here are the CFI scores for those loans based on the starting point of this hypothetical scenario if Jon were strictly adhering to the cash flow index method to pay off his loans in this scenario he would pay off the car loan first then the credit card and finally the student loans granted in this particular scenario he may opt to pay off the credit card first given that the CFI score is so very close to that of the car loan and it carries a much higher interest rate but I digress with that being said every month the CFI score gets recalculated since the loan balances change after every payment so in real the order may change at some point during the payoff period depending on the exact figures you're working with but this is the general idea in theory this approach is supposed to help you free up a larger portion of your cash flow quickly at least in comparison to other strategies but we'll have to run the numbers to see if that actually works in reality so let's do that if we assume that we utilize that same hypothetical for John and also assume that he has $1,000 a month to put towards his loan payments here are the results as you can see all three strategies end up paying off the loans in a 7-year period the clearance time refers to how long it takes to pay off the very first loan fully in this particular hypothetical the debt snowball and Avalanche both Take 5 years to clear out that first loan the cash flow index method manages it in just four years and 11 months so technically a little bit better in terms of freeing up cash flow early on but not by much in this case the average clearance time refers to the average time to pay off each subsequent loan after that first one is fully paid off in this case all three strategies take about a year to clear off their second and third loans the interest paid is almost exactly the same for the debt snowball in avalanche at a little over $118,100 but the cash flow index method leads to an additional $433 or so in interest paid over a 7-year period if Jon had had a little bit more money available to put towards paying off his debts say $1,250 a month instead of just 1,000 things would have looked quite a bit different in this more cash flow ad vantageous scenario the debt snowball and Avalanche managed to clear their first loan which in this case would be the credit card for both in just 16 months compared to the 37 months that it would have taken for the cash flow index approach to eliminate the car loan now granted the car loan had a much higher minimum payment than the credit card so freeing up a little over $500 a month by month 37 versus just freeing up $100 a month by month 16 could still be noteworthy but in this particular case the Avalanche and snowball approaches finish off the car loan just 3 months later so that Advantage is shortlived for most of the scenario the cash flow index method is at best equal to the other approaches in terms of freeing up monthly cash flow and for a good chunk of it it's worse off although it does manage to finish off its subsequent loans considerably quicker which for some people in situations where the interest rate differences aren't so severe as they are in this hypothetical that could be advantageous as well because after you finish off that first loan the rest of the journey seems so much easier simply due to it being so much shorter however both of these scenarios assume that Jon is trying to choose a debt payoff strategy at the start of his journey as if he had racked up all three loans in the prior month which is possible but unlikely so what if anything changes if we jumped forward in time to a situation where Jon had been making payments on some or even all of these loans already we know that the minimum payments would be the same either way in all likelihood the same could be said about the interest rates but the loan balance would change for this scenario let's assume that the credit card still has a balance of 5 grand the car loan still has a balance of 25 Grand but the student loan now just has a balance of $122,000 here's what the results would look like for John assuming Jon has the original $11,000 a month available to put towards his debt payments all three approaches would have him reaching debt freedom in a little over four years he'd clear his first Loan in a little under three years and the subsequent loans in about 8 or nine months on average average however at least with this particular balance and loan interest rate scenario Jon still does not have much of an advantage in terms of freeing up cash flow early on as a matter of fact unlike the original scenario the debt snowball clears the initial loan just as quickly as the cash flow index method and it results in paying less interest overall and it results in a slightly faster total payoff period So based on these numbers there wouldn't really be any reason to use the cash flow index method so is that it is the cash flow index method basically just a worse version of the more popular approaches with the sole exception of occasionally saving you a month or so on clearing that first loan well that is its primary strength and especially when we're dealing with just a few loans that will be paid off and just a handful of years like this scenario is having a c we're not going to notice a Monumental difference between most debt payoff strategies even if we had more loans and more time spent paying off those loans it's not like the cash flow index method would sudden L be designed to minimize total payoff periods or the amount of interest you pay overall like some of the other strategies are but that doesn't mean it's worthless for the right person in the right situation for example if we modified the original hypothetical in a way that made the cash flow index method shine it might look something like this Jon has $3,000 a month to put towards his loans but this time he has four loans to deal with in addition to the $5,000 credit card loan $6,000 car loan and $7,000 student loan all of which have the same interest rates as before John now has a new $250,000 mortgage at 7.5% interest looking at the results we see a similar story playing out with the cash flow index method clearing its first Loan in just 9 months compared to 11 for the debt snowball and 13 for the debt Avalanche however the distinction is in the details all three approaches paid off the car loan first even though neither the debt Avalanche or debt snowball were trying to but since the cash flow index method opted to pay off the student loan second in this scenario instead of third it managed to free up a lot more cash flow early on than either of the other two strategies digging into the details we see that by month N9 the cash flow index method had paid off the car loan freeing up nearly $57 a month in cash flow by month 12 it had paid off the student loan meaning that we were looking at around $886,000 compare that to the debt snowball which paid off its first Loan in month 11 the credit card in month 14 and the student loan in month 17 meaning that the cash flow freed up was about $57 by month 11 607 by month 14 and the same 986 by month 17 the debt Avalanche followed an even slower early trajectory with its debts being paid off in month 13 14 and 20 respectively again we're still dealing with just three loans being paid off here and they're all being paid off in roughly a year and a half so in the real world this particular hypothetical would not have made too much of a difference after all by month 20 all three approaches would still just have the mortgage left but that may not always be the case once you start adding in more loans over a longer time period and factoring in things like restructuring your debt consolidating loans down to lower interest rate Vehicles windfalls the possibilities of undesirable events leading to pauses or backsliding in your debt payoff journey and so on and so forth so as usual with these videos I encourage you to not necessarily get hung up on the specific figures in the examples because they are just examples but rather pay attention to the ideas behind the numbers so that you can decide for yourself if this approach or any of the approaches that we go over on this channel really could be relevant to you in your situation so that is the cash flow index method it's definitely a more Niche approach than the snowball or Avalanche given that it doesn't attempt to optimize for the things that most people trying to pay off their debts would probably be trying to optimize for in this case clearing off loans quickly and minim minimizing interest payments in the long term though as we saw in certain situations it can clear off the initial loan quickly when you have a weaker cash flow position such that you can't make much more than the minimum payments on your loans or the loans would be deemed really inefficient by the cash flow index formula but in certain situations for the right person it can nonetheless be effective but what do you think is there a place for this type of strategy in the debt payoff sphere or would we all be better off sticking to the more tried andrue debt snowball and debt Avalanche approaches are there any other debt payoff strategies that you've utilized and found helpful let me know in the comments section below but that'll do it for me today once again if you enjoyed this video be sure to smash that like button if you haven't already subscribe and hit that Bell next to my name so you'll be notified of all my future uploads if you have a friend that would be interested in this kind of content be sure to share it with them let's really get this information out there and start our own Financial Revolution
