When I received a windfall of money a few years ago, I couldn't figure out whether I should pay off my debt or save the money. I decided to write down the pros and cons of putting the money aside or getting rid of my credit card, mortgage and car loan debt. Now that I look back on it, I am glad I decided to put saving ahead of paying down debt. Because my financial situation is always changing, I often have the saving-versus-paying off debt debate in my mind. I consider several factors before funneling my extra money toward savings or debt repayment.
Looking at my emergency savings
I've heard experts recommend that people save between three to nine months worth of expenses in their emergency savings. When I received my tax return this year, I first looked at my emergency savings fund. Because it was below the three months of expenses mark, I funneled the tax return check into savings instead of paying down my car loan.
Figuring out my debt costs
I wrote down a list of all of my debts along with the interest rate in order to figure out if I should pay m debt off before saving. Even though I had an interest rate of 4.65 on my home mortgage, I knew I was going to refinance to lower my rate. My car loan interest rate was only 2.85 percent. Although my credit card interest rate ranged from 10 to 18 percent, I only had a small balance on my credit cards.
Making more money on my savings
I also considered how much money I've been making on my savings. Even though past performance can't guarantee future results, I knew my investment account earned me at least 7 percent returns in a typical year. I make less than 1 percent in my savings account, but I could depend on that money for emergencies instead of credit cards with a high interest rate. Because I was underwater on my home, I knew I couldn't take out a home equity line of credit in a crunch.
Committing to my financial goals
Although I thought I had the goal to be out of debt, I realized my real goal was to have financial security, flexibility and more choices. By having more cash, I could have the flexibility to pay for spontaneous trips as well as unexpected expenses and necessities. I could always use my cash to pay off my debt in the future if I needed to have a better debt-to-income ratio.
In the end, I made the right decision because the stock market went up and I was able to take the extra money I earned to pay off my debt. Even though I saved first and paid off debt later in my 30s, I might make a different financial decision in the future. Hopefully, I'll stay out of debt so I won't face the same question.
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