Looking at the numbers, the process for eliminating debt is anything but an easy-to-solve financial equation. Yet, many people wonder if they should pay off their debt as quickly as possible or invest their money, letting debt payments run their course. Theories about balancing investing with debt vary widely.
Some financial experts say freedom from debt is the most important goal. Others say it's more about the math: Your money should go toward investing if your investments earn a higher rate of return than your debts cost you. Most importantly, how comfortable are you with a certain level of debt?
If you're like most people, you'll need to manage finances for both present and future needs. That means paying off some debt today while simultaneously investing with an eye on the future.
Taking into account your own needs and circumstances, here are some quick tips:
- Save for a rainy day. Before paying down debt (beyond required payments) or settling on an investment strategy, make it your first priority to put funds aside for an emergency reserve. We recommend 12 months or more of living expenses; an absolute minimum is six months' worth. These funds should be in traditional savings or very short-term, highly liquid, non-volatile investments.
- Your future first. As a general rule, your long-term investment plan should take priority over applying extra amounts toward debt. By contributing to a long-term investment plan as early as possible, you may set yourself up for a better chance of accomplishing you long term goals.
- Prioritize your debts. With an emergency fund in place and your investment strategy up and running, putting any extra money toward your debts is also a smart way to go. But how do you decide which debts to pay down first? One approach is to start with the smallest debts first to eliminate at least some of your debt burden and interest payments in a timely manner. Tax considerations might also come into play. Work with your advisor on the best strategy for your situation.
- It's personal. As you divide and conquer debt, don't forget to consider the emotional side of your strategy. If paying off a certain debt will help you feel more secure, you might want to go with your gut feeling.
You'll enjoy a growing sense of financial freedom as you stay on course and get your debt under control. As it shrinks over time, you may find you have more funds available for enjoying the present and focusing on the future. Working with an