Wait! Is It Time to Save or Pay Off Debt?
At New Year's, and anytime of year, when you make a resolution to save more money and get financially healthy, it's important to also consider any debts you may have, and whether it would be wise to reduce or eliminate them before focusing on saving. In other words, make sure your priorities serve your goals.
New and unexpected financial strains, like a leak in your roof or a blown tire on your car, can cause more than momentary pain, putting you deeper into debt and even further from financial wellness if you don't have savings, so building an emergency fund should be your first priority.
But once you have an emergency fund, it's time to figure out whether your next priority should be saving or putting a little extra toward your debts each month, above and beyond the minimum required. The answer is different for everyone. It depends on the kind of debt you have and your risk for new financial setbacks.
If, for example, you have credit balances that grow bigger every month because of high interest rates, it might make sense to pay them off sooner rather than later.
On the other hand, saving extra would be smart if your job isn't stable and unemployment is a real risk. Or if a member of your family has a medical condition that could result in expenses that aren't covered by insurance. Or if you are a homeowner with an old roof that will need to be replaced at some point.
Get the idea? Anything that increases your financial vulnerability impacts how much you should prioritize saving. Check out the graphic below to see how priorities shift for three people with different circumstances.
Financial Priority Meter
Save Extra vs. Double Up on Debt Payment
Example 1 is a single 23-year-old seasonal park ranger, with no kids. His debt includes student loans and a car payment. He currently has no savings.
Example 2 is a married 56-year-old tenured professor with 3 kids. His debt includes a home mortgage, car loans (2 vehicles), and credit card balance (substantial, 15.6% APR). He currently has an emergency funds to cover 6 months of expenses, additional funds equivalent to 36 months of income, and a 401K retirement on track to 100% income replacement by age 65.
Example 3 is a 44-year-old new business owner, single parent with 1 son. Her debt includes a home mortgage and credit card balance (substantial, 16.1% APR). She currently has emergency funds to cover 6 months of expenses. She must plan for sending her son to college in 3 years and her house requires a new roof.
While you probably don't have a crystal ball that will tell you for certain whether financial misfortune lies just ahead, you can take a good look at your personal circumstances – the nature of your debt and your risk factors – and set priorities that will help you achieve your financial goals. Go for it!
Stay on Track to Your Goals
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