When to Use Your Savings to Pay off Debt
All of us understand the value of savings, but tragically, this is a challenging goal to attain for many Americans, as claimed by National Debt Relief (NDR), US. While it's logical to eliminate debt first, many people have trouble deciding whether it's a good idea to use savings to pay off debt or not. Financial experts have varying opinions, and there are advantages to both approaches.
Before You Pay off Debts with Savings
If your opinion is divided between saving and paying off debt, the answers to the questions mentioned here can help you set up your priorities:
What’s the Rate of Interest on Your Debt?
If your savings account's rate of return is greater than what you’re paying for your monthly credit card interest, saving ahead of eliminating debt is a financially sensible idea.
Do You Possess Sufficient Emergency Funds?
If your emergency fund is negligible or lacking, it’s important that you divert at least some amount of your income towards creating it. Experts suggest that your emergency savings should equal your living expenses for three to six months.
Are You Receiving the Whole Employer Match in Your 401(K)?
Most companies that offer 401(k) plans match a quantity of their employees’ share to the plan, normally 3% to 6%. Losing that match is avoiding free money, also referred to as a guaranteed return. That’s a bargain too good to disregard.
Related Article: What Percentage of Your Income Should You Consider to Save Monthly?
When to Use Your Savings to Pay off Your Debt
Consider the various justifications given here for both methods to evaluate when to use your savings to pay off your debt:
Reasons in Favor of Paying off Debt First
While no one's comfortable with the idea of being burdened with debt, and in the absence of a sound level of income, soaring balances can pursue you for years. But if you own the cash, here are three good reasons to pay off debt prior to saving your money:
- Eliminate Paying Interest
- Improve Credit Score
- Mental Peace
Reasons in Favor of Saving First
Wouldn’t it be nice to see your savings or investment accounts rise up month after month? Instead of paying off debt, if you concentrate on saving money, you can fulfill this dream sooner, considering the following:
- Having a Low Debt Interest Rate
- Creating a Financial Cushion or Emergency Fund
- Decent 401(k) Employer Match
There's no fixed order of where to place your money that will fix your entire financial condition, but you can begin with this easy guide to get comfortable and become empowered to take action. Financial experts recommend the following steps:
- Maintain a low emergency fund to deal with regular cash-flow mismatches, always occurring between income and expense.
- Diligently try to pay off all debt, excluding anything tax-favorable or debt on an appreciating investment.
- After being debt-free, make it a goal to maintain a saving that is worth 3 to 6 months’ of your living expenses in an easily accessible savings account.
- Once you've attained a healthy emergency fund, divert future wealth to investments. Include some non-financial investments that occasionally provide better returns than financial investments.
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