When you want to choose between the two short term goals, a debate quickly ensues. Being held by debts can be a stressing experience and to make a worthwhile comeback to the right path, you may be required to make some serious changes to your lifestyle.
While debt can’t be ignored, you still need to create a sufficient fund to provide a soft landing if you are in an emergency. Without it, your risk of getting trapped deeper into debt is higher. As such, you need to make a decision based on your current situation. Here, well discuss what you should give priority between saving and debt elimination.
When to pay your debts
If you have several consumer debts that come with high-interest rates, eliminating them may be a good option when you want to solve financial issues. Basically, this form of debt is expensive if held on for too long. This implies that if the amount of money you will lose over the period you have the debt doesn’t match what you would earn if the money was invested elsewhere; it is time to pay the debt.
To manage this effectively, you only need to find out how much money you can afford to set aside on a daily basis. This is the exact figure that should be used to create a working budget for debt repayment. To make the debt more affordable, you may want to consolidate all your credit cards into one card that can offer you lower interest rates.
To illustrate, if the consumer debt has an interest rate of 15% it means you are losing the same percentage if you held the money in a zero interest rate account. But if the money was invested in stocks with a 10% return, you would be losing 5% of the funds. As such, it’s best to clear the debt first.
Saving prior to eliminating your debts
If you don’t have a sufficient emergency fund, it is advised that you work towards building the fund as soon as possible. Basically, the money should be enough to help you survive for at least three months. But this works well when all your debts attract low-interest rates. Otherwise, dedicate a portion of your dispensable income towards debt reduction until you build the fund.
The reason why this approach is recommended is that without some money to utilize on a rainy day, there is a high likelihood that you will only get deeper into debt. Alternatively, if your job guarantees you a pension plan, it’s better to focus on making the savings. If you postpone the savings plan until you’ve cleared the debts, you might end up losing a lot of time.
Ensuring your savings are safe is important if you want to ensure progress. As such, only invest the funds in avenues you are quite familiar with.
Until you have sufficient savings, only pay the minimum amounts on high-cost debts
If you are experiencing difficult financial times, it’s important that you start slowly until you’ve put your house in order. This means that you will only pay the minimum toward the debts until you have cushioned yourself from additional debt through an emergency fund.
Starting with this task makes it easy to cope with your financial situation and you can keep going. The next thing would be focusing on the 401(K) plan but it would be wrong to go full blast on this. As such, you should commit to making small contributions to your plan since the big idea here is to ensure you have taken advantage of time and the compounding effect.
But if you have an employer who is ready to match your pension contribution, your main focus should be towards making contributions that will lead to maximum benefits from the employer.
It’s time to engage the high gear in your financial life by generating more income
At times, you don’t have to choose between debt and savings. If you can create more income it’s possible to make payments towards both causes. At the same time, this will be your best shot when there isn’t enough money to cater for all the expenses related to debts and savings.
But even when you already have enough for the budget, putting some extra dollars towards your goal will help you spend less time achieving the objective.
Besides getting a side job, you can use your talents and skills to create more income. Alternatively, you can consider entrepreneurial approaches like starting a blog with an aim of creating passive income.
The rate of return for investing the savings
Assessing the differences in the rate of returns for applicable investments can help you decide which task should take precedence. Debts and investments alike have different interest rates and you will get a clear picture when you compare both.
For instance, there is a big difference between rates that come with installment loans and credit cards. The former has relatively low interests while the latter have exorbitant rates.
Depending on the option that helps you earn more benefits, you will make the maximum contributions. This means that if just right loans are bound to cost more, in the long run, your best option would be focusing on debt repayment. On the other hand, if you have an investment plan that gives you higher returns, you would earn more money if you directed more money towards the investments.
Despite the constant debate between debt repayment fanatics and savings enthusiast, the best option always depends on your individual situation. This means that you have to carefully evaluate your most important objective and adopt an approach that guarantees the highest gains.
All in all, there is always a need to constantly review your financial situation and ensure you are using a strategy that reflects your best interests. Therefore, if increasing your investments makes more sense than paying down the debts, then you ought to be putting more money towards your investment fund. On the other hand, expensive consumer debts must be cleared quickly before they become too costly.
In a nutshell, there is no right or wrong approach as long as you are using a strategy that suits your current situation.