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Should I Save or Pay Off Debt?

May 26, 2014

Most of us have way more financial goals than cash to spare. So deciding what to do with an extra chunk of change can be a tough choice. After all, debt can be costly. But having inadequate savings puts you in a position where you can easily rack up more debt. “The real answer is that you need to do both at once,” says Gail Cunningham, spokesperson for the National Foundation for Credit Counseling. The answers to the following questions can help you establish your priorities.

What’s the interest rate on your debt?

Paying off a credit card at a 15% interest rate is equivalent to getting a 15% guaranteed return on that savings. By comparison, the stock market has returned about 8% over the long haul, and the return on the average savings account is far, far less. So you’ll get the biggest bank for your buck by ridding yourself of that costly debt.

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Do you have enough emergency savings?

If your rainy day fund is low (or nonexistent), it’s crucial that you direct at least some of your extra cash towards building it up. Experts recommend that your emergency fund contain about three to six months’ worth of living expenses.

Are you getting the full employer match in your 401(k)?

Most firms that offer 401(k) plans match a certain amount of their employees’ contributions to the plan, typically 3% to 6%. Forfeiting that match is turning your back on free money – otherwise known as a guaranteed return. That’s a deal too good to pass up.

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