Should you prioritize paying off debt or saving?
Thursday, 4 March 2021
As we all know by now, a pandemic isn't just a health challenge; it's also an economic challenge. Since the coronavirus pandemic hit, Americans' biggest financial regret has been not having enough emergency savings. Looking ahead, respondents to the same survey said their biggest financial goal is to pay off debt.
Clearly, the pandemic has made many of us rethink our financial habits and situations, and saving and paying off debt are both important financial goals. However, which one should be your top priority?
The right answer may depend on your particular situation. In some cases, paying down debt should be first on your list, while in other cases, saving should take top priority. The best of both worlds is figuring out how to do both at the same time. Here's how to figure out which path will work for you.
When to prioritize saving
If you have little to no emergency savings, it's wise to focus on saving before getting out of debt. That's because if you are faced with a financial emergency and have no savings, you'll probably have to take on more debt to manage the crisis. However, if you have emergency savings set aside, you can manage an unexpected expense or emergency without adding more financial stress.
Another reason to prioritize saving is if you have an employer-matched retirement savings plan. If your employer will match your contributions to your 401(k) up to 5 percent of your salary, for instance, you should do everything you can to contribute at least 5 percent to retirement savings. If you don't, you're leaving free money on the table.
Also, if your debt is at a very low interest rate, saving first may be the best decision. Currently, certain interest rates are historically low enough, so if you're paying very little interest on your debt, it may be worthwhile to focus on saving money before getting out of debt.
When to prioritize paying down debt
If you have consumer debt with a relatively high interest rate, such as credit card debt, you should prioritize paying it off. Lowering or eliminating your interest payments will put more money in your pocket than you'd make in the stock market or in a savings account. When you've freed up your funds by no longer paying interest, you'll be better able to focus on savings.
How to do both
Ideally, if you have consumer debt and little savings, you could prioritize both saving and paying down debt at the same time. The best way to do this is to create a budget that includes all your monthly and occasional expenses. Look for ways to trim the budget and free up extra money, such as cutting a streaming service, converting to a cheaper phone plan, and biking instead of driving.
When you have gotten your expenses as low as possible, include monthly line items for debt repayment and small contributions to savings. As you pay down debt, take the money you're saving on interest and add it to your savings contributions. Over time, and with discipline, you can accomplish both goals of building savings and getting out of debt.
The content provided is for informational purposes only. Neither BBVA USA, nor any of its affiliates, is providing legal, tax, or investment advice. You should consult your legal, tax, or financial consultant about your personal situation. Opinions expressed are those of the author(s) and do not necessarily represent the opinions of BBVA USA or any of its affiliates.
Links to third party sites are provided for your convenience and do not constitute an endorsement. BBVA USA does not provide, is not responsible for, and does not guarantee the products, services or overall content available at third party sites. These sites may not have the same privacy, security or accessibility standards.
You may also be interested in:
Savings & Budgeting
10 money moves you can use to save and earn more
Sometimes even small money moves can result in big rewards. Here are 10 smart, strategic and simple money moves to help you earn more, save more and prepare for a brighter financial future.
Savings & Budgeting
How one couple tripled their savings by putting their finances on a “diet"
A few months ago, as my mathematically inclined husband reviewed our monthly budget at our kitchen table, he lamented that we had yet again failed to adequately save money. Despite compulsively jotting down our expenses on a spreadsheet stuck to our refrigerator, we had managed to stay within our allotted budgets but somehow not add much money to our savings.
Owning a Home
Is homeschooling in your child's future? A HELOC may help pay for it
As millions of families across the United States face the back-to-school season during a pandemic, many are trying to determine the best approach to educate their children safely.