Should I Pay Off Debt or Save Money First?
When you are trying to manage money, you may wonder whether to prioritize putting money into savings or paying down your debt. Like most things in life, there are pros and cons to each, and there’s no one-size-fits-all answer.
The best way to decide is to evaluate your specific financial situation and make a plan that includes both in proportions that match your goals. Review our guidance below, so you can start making a savings plan/debt payment plan that fits your budget.
1. Do You Have an Emergency Fund?
Build a financial cushion as your first step toward overall financial security.
If you face an unexpected expense, it can affect your ability to cover many of your other costs. That’s where an emergency fund comes in handy, providing you with a cushion in case of an unexpected car repair, medical expense or employment gap.
When you have an emergency fund, you’re less likely to rely on credit cards to help you cover unexpected expenses, which then can lead to very costly interest charges.
A good starting goal is to save enough to cover one to three months of essential living expenses. Once you have that foundation, you can turn your attention to paying down debt more aggressively.
2. What Interest Costs are You Paying?
Not all debt is created equal.
If you carry balances on high-interest credit cards or personal loans, those interest charges can add up quickly.
The average credit card interest rate is more than 20 percent, which can make paying it off difficult if you extend beyond your means. Paying down cards with the highest interest rates means you’ll have less money going toward interest and more funds available to pay down other debt or to grow your savings.
If you have your emergency savings in order and you are paying a higher credit card interest rate than the savings rate you are earning, it can make sense to put extra funds toward reducing that overall debt load. .
3. Are You on the Right Track for Retirement?
Your retirement accounts are a critical part of preparing for your future. Everyone’s financial situation is different, but you can assess your retirement opportunities and ensure that you’re making the most of them.
For example, if your employer offers a retirement fund matching contribution, it makes sense to max out what the company offers. That's essentially free money that can boost your long-term savings.
4. Should I Try to Pay off ALL Debt?
Your mortgage or your auto loan probably has a much lower interest rate than your credit card.
Whether you pay it down depends on your other priorities and what your road map looks like for the next several months.
If you expect to spend money on a renovation project, a wedding or a big vacation, you may not want to use extra funds to pay down debt, because then you might need to get a different loan to cover big-ticket upcoming costs.
It may make more financial sense to continue making your regular payments while directing additional money toward savings, investments, or retirement accounts. If you have additional funds available, you can always make an additional payment to be applied directly to the principal of your loan.
You Can Do Both
The choice between paying off debt and saving money doesn't have to be an either-or decision.
Building financial security means actually feeling secure and feeling ready to weather any financial situation. When you take a balanced approach to saving and paying down debt, you can feel more financially settled and stable, and more ready to manage life’s opportunities.
Need some help getting started? Our financial calculators can help you start mapping out your situation and figuring out the best next steps on your financial path.
