Save Cash or Pay Down Debt, It All Depends on Your Goals
There is a ‘chicken and the egg’ feel to the question of whether you should increase savings first or pay down debt. The two are linked in ways that may not be obvious, and the answer to this personal finance question will depend on your situation.
The answer to these questions will help you make the decision about how to manage debt verses savings.
- Do you have an emergency savings fund? Yes or no? it makes a difference.
- How much does your debt cost you? Low interest car loan debts have a smaller impact on your budget than high interest credit card balances. Make a list of all your debts and the interest rates they carry and aim to pay of those that cost you the most first.
- How much would your savings earn you? Interest rates are low, and most savings accounts offer less than 1% interest on your balance.
- Do you expect any windfalls? Are you anticipating a tax refund, work bonus, gift of other money that is outside of your current budget? If so, this may impact your decisions.
- What are your financial goals? Big dreams, like starting a business or buying a house, require you to save money for large cash payments ahead of time.
The Next Step
There are a few simple answers that will be impacted by how you answered these questions.
If you have no emergency fund, start here. You need to be able to address unexpected problems without incurring new debt. If you have an emergency fund, you have more options.
Look at the answers to questions 2 and 3. If you can save more money by paying off debt early, do so. Otherwise, pay off the debt as scheduled. Low interest loans might actually help you, but high interest debt needs to be paid off quickly. If you are planning to buy a house or open a business, having cash on hand can be better than being debt free.
In addition, remember to:
- Maximize your match to your employer’s retirement plan. It’s basically free money.
- Maximize your health savings account, because the pre-tax dollars will go farther.
- Focus on retirement first, your child’s education second. You can do both, but there are other ways to fund schooling but not retirement.
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