Should You Pay Off Debt or Save First?

A few years ago we had credit card debt.  How did we accumulate it?  The same way any “normal” family does – home expenses or some other series of random purchases. We also worked really hard to pay it off.  When the debt was finally paid off, it was almost anti-climactic because we didn’t even realize how fast it’d happened.  We didn’t really have a plan, but we put as much as we could toward debt and it worked. I think just being aware of the debt was the first step.

This doesn’t mean we are debt-free though. We still have student loan debt and a car loan we’re working to pay off,  as well as a mortgage and home equity line.  But for some reason paying off the credit card debt felt pretty damn good.  When we were in this place, there wasn’t even a thought of stashing cash – we just wanted the debt gone. Yet, as we get older, make more money, and cut our overall debt, I’ve often considered padding my savings over paying down debt.

I’m not sure why it is, but the feeling I get is that having credit card debt is a heavier weight than other debts. So I am constantly going back and forth trying to figure out if I should hoard cash or put everything I can toward debt. As I mentioned in an earlier post – I am pretty extreme and I am really trying to be more balanced, but it’s not easy.


Pay Off Debt or Save?
Should you stack that paper or pay off your loans?

Pay Off Debt or Save: Their Opinion

1) Erin El Issa: “Saving Money vs. Paying Off Credit Card Debt: Where Should You Start?”

Erin lays out three key steps to making the decision on whether to pay off your credit card debt or start saving money: 1) adding up your debt, 2) evaluating your savings, and 3) setting priorities. The focal point is first getting an understanding of how much debt you’re actually in. Erin suggests writing everything out to see what debts you have, despite how shocking it can be.

She recommends building up your emergency savings and evaluating your spending for a month to see how much you actually need to budget (I suggest using Mint for this). Lastly, Erin suggests using balance to pay off your debt until you’ve built a nice emergency savings. Once you have that in place, focus on “blasting through” your high interest rate debt.

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2) Erik Carter: “Should You Increase Savings First or Pay Down Debt?”

Erik Carter of Financial Finesse lays out 7 steps in this Forbes article to help you figure out this often-asked question for yourself. His steps also focus on building up an emergency savings, but also on retirement savings, saving for a house, and putting away money for college.

One of the more unique steps Erik lays out that interested me was maxing out a health savings account. He suggests doing this because an HSA is pre-tax money and a tax-free way to pay for health-related expenses. One of the best features of an HSA, as he describes, is that “…unlike an FSA, you can carry it over and invest it for the long term. Anything you don’t use grows tax-deferred and can be withdrawn penalty-free after age 65 (and still tax-free for health care expenses).” Pretty sweet.

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3) Fidelity Viewpoints: “How to Pay Off Debt – And Save Too”

Fidelity usually has some pretty good blog posts, and this is a more recent example (from February of this year) of one. They lay out a 6-step strategy for paying off debt while also still building your savings. Fidelity suggests favoring a 401(k) before paying off student loan debt and credit card loans. Their argument is that loans like student loans, car loans, and mortgages typically have lower rates (and sometimes tax advantages) so it’s okay to pay the minimums for awhile. Fidelity also suggests using a Health Savings Account – in fact they did an entire blog post about it here.

4) Sandy Block: “Save or Pay Off Debt?”

Sandy’s article is quick and to the point. She advises knocking out high-interest rate credit card debt, then ramping up your retirement savings, similar to Fidelity’s suggestion. She says that “…putting off saving for retirement until you’re debt-free could cost you the most valuable asset you have: time.” I’m not sure if her article was meant to be this literal in that you should stop paying off debt, make minimum payments, and put the rest in savings – so I’ll leave it up to you decide.

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5) Helen Saxon: “Repay Debts or Save?”

“Those with debts AND savings are seriously overspending but the solution is simple. Pay the debts off before you save and maybe even your mortgage. Forget the old ‘must have an emergency savings fund’ logic as getting rid of debts beats that too.”

The examples use pounds instead of dollars, but you’ll still get the message. Helen describes how people holding debt with the same banks they’re holding savings with as getting a loan with your own money, only at a higher rate. She also talks about a few exceptions to paying off debt first, such as debts that incur a penalty for early payment. One other point Helen makes in this article is around mortgage debt. Many people don’t consider this a “debt”. I think this is true, and it’s most likely because mortgages are usually larger, lower rate, “always there” debts to many. I’m not saying I agree with this argument…

6) Valencia Higuera – “Should I Pay Off Debt or Save Money First?”

Valencia gives 3 things to consider for paying off debt first and 2 reasons for saving money first. Her reasons for paying off debt first are: 1) to end paying interest, 2) to improve your credit score, and 3) to get peace of mind.

Most people know about the first reason – having debt usually means paying interest, not having debt means that will go away.

The second point is interesting, though. It’s true that 30% of your credit score is based on how much debt you owe (check out this article to see the other factors and weights of your credit score) and I’ve seen it play out first hand as a credit analyst. Even those with flawless payment histories still get pinched on their credit score if they’re carrying a ton of debt.

Lastly, the third point about peace of mind is spot on. Having debt can be a very overwhelming feeling for people, so reducing or paying it off can be an incredibly freeing experience.

Valencia’s 2 reasons to save money first are 1) if you have a low rate on your credit card and 2) to create financial cushion. I’m still against the argument of saving while you have credit card debt at a 0% promotional rate. Many people do not have the financial aptitude to stick to paying it off – they get used to having a super low monthly payment and forget that the rate hikes after the promotional period ends.

Her second point about a financial cushion is much like the arguments above as it relates to having emergency savings. I think it’s good to have this, but not always in lieu of paying off debt.

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7) Kimberly Palmer – “5 Questions to Help You Decide Whether to Save or Pay Off Debt”

This article is for those who are in a position of already having some money set aside and can’t decide whether to keep it in savings or use it to pay off debt. Ms. Palmer poses 5 questions in this article to help the reader decide for themselves:

  1. Do you already have an emergency savings account?
  2. How much is your debt costing you?
  3. How much would your savings earn you?
  4. What are your expected earnings in the near future?
  5. What are your financial goals?

So instead of answering the question for you, she makes you think about it yourself.

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8) Marcia Passos Duffy – “Should You Pay Debt Before Saving?”

“Simple math suggests it’s better to get rid of debt before saving for retirement or an emergency fund. After all, if the savings rate is 1 percent and you have credit card debt at 14 percent interest, money is better spent paying down debt quickly. But personal finance decisions are rarely so simple, and this method may not be the right choice for everybody.”

This article references different financial experts and their quotes on this subject – and for both sides of the argument, which is cool. One argument for paying off debt before saving talks about letting our emotions get in the way of what makes sense both mathematically and financially, such as padding our savings account for a false sense of security. Instead we should pay off debt first.

There are also some valid points about saving first. The article then finishes with discussing a balanced approach – both saving money and paying off debt at the same time.

Pay Off Debt or Save?
Feed the pig or nibble away at debt?

Pay Off Debt or Save: My Opinion

My simple answer is balance. Pay off debt while you save. Yes, it will take longer to reach your goals in both of these categories, but it will limit stress from either not having enough savings or having too much debt.

We always joke about a comment my sister-in-law apparently made when she was younger. She said she didn’t want to be rich, she didn’t want to be poor, she wanted to be “medium”. It’s funny, but it’s also a motto to live by. I read that as be balanced.

Any time we’re considering buying something (like a coffee maker, which we did just buy), we never go for the most expensive model, and typically not the cheapest model, but usually something right in the middle. Balance gives you the best of both worlds. With money, it’s a slower moving turtle, but in the long run you’ll win the race.

As I mentioned in my first post, take your leftover money at the end of the month and split it between savings and debt. This will give you a good start.

This question is not easily answered, hence the reason it’s one of the highest searched phrases on Google. So it begs the question, which way do you choose (or have you chosen in the past)?

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12 thoughts on “Should You Pay Off Debt or Save First?”

  1. Personally I think balance is needed as well. First and foremost contribute enough to your 401k to get the employer match and have an emergency fund. Then I’d aggressively use the leftover cash to pay down the higher interest debt (for me that’s over 4%). Then once the debt is paid off – funnel that money into 401k, IRA, and after-tax savings.

    1. I think that’s a great methodology (and I loved the article you wrote on it by the way!) and one that most people should follow. Were you thinking the 401k IS your emergency savings or you should have an emergency savings in addition to the 401k? If the former, I’d lean toward building a cash emergency savings – as that’s more liquid and you’ll avoid fees/taxes if you need to use it.

      It’s funny – when you lay it out in your comment it seems so simple, but in reality so many of us struggle to find this balance and figure out exactly what to do with our money (this includes me!). I think in any situation, as long as you’re making progress, just make a plan and stick to it. In the end you’ll be good to go as long as you’re living below your means and attacking either debt or savings.

      Thank you for reading and commenting!

  2. Ah yes, the mortgage vs. savings question.

    My wife and I have decided not to pay off either of our homes early, and for one primary reason: we are looking to move out of our current home city within a few years anyway, and our saved cash will work more in our favor if contributed to our goal of buying a reasonable town house in Sedona, AZ, in the near future with as much of a down payment as possible to keep our new mortgage low (or non-existent).

    In our case, this question is actually rather easy. But even if we weren’t moving, I don’t think we would scrimp on our long term savings in order to pay off our mortgage ASAP. In fact, I KNOW that we wouldn’t. At this point, my wife and I will probably be retired in a few years, and the sale of our homes will simply be counted as additional income during those years. We have NOT accounted for our home sales in our FI figures, so this’ll all just be a bunch of extra cash. Cool, I like extra cash.

    Keeping our retirement date as close to today’s date as possible is our main priority, far above and beyond paying off the mortgage on the house. It is true that being mortgage-free helps that retirement date as well, and I recognize that building up our savings without the high monthly payment of a mortgage would be killer for our savings potential, I also don’t want to spend the next few years paying down the mortgage, only to find that I have ANOTHER couple years after that point before I can actually retire.

    But in general, I absolutely agree that paying off high interest debt is the absolute #1 priority, and then a balanced approach to paying down that mortgage and saving for the future should be the natural next step. If I had to err on one side or the other, I would pick the one with the highest interest rate to throw additional cash in every month. So if my mortgage interest is higher than my average rate of return, I devote extra cash to principle-only mortgage payments. If, on the other hand, my rate of return is greater than my mortgage interest (which it is, big time), then the extra cash gets invested.

    1. That’s a good point, and I think that’s going to be our approach (as it relates to the mortgage). We have equity in our home and I think it makes sense to save up enough cash to purchase a second home, then be in a position to either sell (and profit from) your primary residence(s) or rent them for profit.

      What are your thoughts on debts such as student loans, car loans, etc. that aren’t necessarily credit cards at super high rates? I think this is where most of the debate comes into play, since rates are much lower typically. For me, I just hate the feeling of even having debt, knowing it’s there and that I owe someone something.

      1. I personally look at student loans, car loans or, quite frankly, ANY loan, the same way. I focus on paying off the highest interest loan first IF that interest rate exceeds the growth of that money if invested instead.

        I agree with you that the thought of paying interest just flat sucks. I have a hard time stomaching that thought too, but I know that if my money will make more in the stock market than I lose through loan interest, I still keep my money invested as much as possible. Though I hate debt and paying interest, if it financially smarter to invest, I invest. Every time.

        1. Yeah that’s a good point – and a constant internal struggle I have. You’re, to some degree, betting on the market. I get it, though. Thanks for following up.

  3. I would choose and have chosen to pay off my debts first. I feel your debts is canceling your savings. I never really had credit card debt. I had a car loan and student loans. I paid those off first and now I’m concentrating on my savings and investments. I don’t have a mortgage if I did I would focus on it and investments.

    1. Nicky – good point about debts canceling out savings. I have that same mindset… Why have $100,000 in savings if you have $100,000 of debt? That’s awesome that you’ve been able to pay off your car and student loans! Keep up that momentum and load up your savings and investments!!

  4. These are all really great perspectives on whether or not to pay off debt or save for the future. I especially likes Kimberley Palmer “5 Questions to Ask Yourself Before Paying Off Debt or Saving for the Future”. I can remember asking myself these very same questions (although I did not realize it at the time). Although I believe balance is important, for me and y husbands personal situation, we opted to concentrate all our efforts on paying off $120k of student loan debt in 2.5 years. We have $10k on emergency savings, but at $1,200 in monthly payments over 10 years, it was too much for us to bare while savings. How that we are debt free, we are able to put over $2,000/month in savings (this would reduce once we have kids). If I had less debt going in though, I would probably do things differently. Very informative post.

    1. Thanks Pamela! And congrats for paying off that kind of debt! We just had our first kid, and I can say… It definitely does but a strain on how much you can sock away each month. I didn’t realize it at first, but then the medical bills started floating in and we started making more frequent trips to Target for diapers and such… It adds up. But it’s so worth it. Thanks for reading the post and commenting 😀

  5. This is a good piece, Chris. Thanks for it. My one concern with the “balanced” or “medium” approach on debt is that it can allow bad habits to remain. We paid off our graduate student loans quickly because we got unbalanced or mad about them, much like Pamela(??), and how much money they were eating out of our income ($18K/year). So a year ago we liquidated some savings and got real aggressive and now are free with $20K in emergency fund and still more than $250K in retirement. I think there’s something to be said for getting fired up at those things in your life, particularly your financial life, that are preventing you from realizing your dreams and then attacking them aggressively. That passion can then be applied to saving for retirement/college/etc, paying off house, and avoiding too much debt down the road. For me, the medium approach runs the risk of just falling into excess debt down the road. Perhaps just my immaturity showing there.

    1. No I think you make a great point Derek. We need to have self-control, and unfortunately it doesn’t always come naturally with money. It’s a major decision to liquidate savings and pay off debt, but for many people it works wonders. I tend to agree with you… I hate having debt looming over me.

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