by Good Nelly
Before getting into answering this question, it’s better to have a look at some present debt scenario.
Present household debt scenario
As per the combined data from the US Census Bureau and the Federal Reserve, the average American household debt is $5,700 in the 2nd quarter of 2016. About 38.1% of all the households carry some amount of credit card debt.
The average household credit card debt in Quarter 1, 2015 was about $15,020, which has risen to about $15,812 in January 2016 and $16,048 in March 2016.
The researches also show that the average credit card debt is highest in Alaska amounting to $7,706 and lowest in Iowa amounting to $4,734.
Credit card debt is highest among individuals belonging to the age group 45 – 55 (about $9096). It questions the common belief that young people tend to incur more credit card debt. The studies have also pointed to the fact that people between 45 and 54 years of age are the largest credit card spenders.
Though credit card is not the only criterion to fall into debt, it’s definitely one of the criteria, which can be controlled to some extent.
Now, repeating the question again – “Saving money” or “Paying off debt” – Which is better?
Can you answer the question? Most probably ‘No’.
It’s difficult to answer the question upfront. It’s because the answer and the reason behind it will be different for everyone.
However, there are some general guidelines based on which you can make your decision.
Questions to ask yourself
To come to a conclusion whether saving money is important or paying off debt should be your immediate goal, you can ask yourself these questions:
How much are you spending on your debt?
It is a very simple calculation. First of all, make a list of your loans/debts along with the interest rate. Now, multiply both the numbers to find out how much it costs you per year.
For example, if you have a loan amounting to $20,000, and the rate of interest is 8%, then the loan costs you $1,600 a year.
Do you deposit into your emergency savings account or yet to open one?
Before answering this question, tell me one thing – Do you know the importance of having an emergency fund? You never know when you need an emergency car/machine repair (we live in the age of machines where some machine does every work). So, you can use your emergency fund for this purpose instead of swiping your high-interest credit cards for the purpose.
How much can you get back from your savings?
Calculate how much money you’re investing and the ROI (Return on Investment) on them. Of course, you need to figure out whether or not it’s worth taking the risk. But, that’s a separate question altogether.
Coming to the main point of discussion, you need to calculate what makes sense – paying off a significant portion of your outstanding debt or you can earn more from your investments.
Do you want to improve your credit score?
If you want to improve your credit score to obtain a home/auto loan, then paying off debt might help you. About 30% of your score depends on the fact how much you owe to your creditors. So, you can increase your creditworthiness by paying off your existing unsecured debts.
What are your future financial plans?
If you want to buy a house or save for your child’s college, then you need to save more. Moreover, if you know that there’s a possibility of salary increase or gift, then you can plan your finances accordingly. It’s up to you whether you want to repay debt or put the money into the savings account when you get it.
When is a particular debt your concern?
If paying off a particular debt or saving strategy is your concern, then it’s easier to reach a conclusion.
When it’s a mortgage loan – It depends on your age and how long you plan to live in the house. If you’re young, and you have a plan to move within some years, then it might be a better idea to save more; the reason being the mortgage interest rate is comparatively lower, and the interest you pay is usually tax-deductible. But, if you’re more than 50 years of age, then paying off the mortgage debt makes more sense.
When it’s depositing into 401(k) – If you have such an account through your employer and your employer provides a matching contribution, then you should never fail to contribute the minimum required amount to get the full match.
Additional facts to consider
You may consider some additional facts to arrive at a decision.
Paying off a debt enables you to save more since you don’t have to make interest payments anymore. The amount is definitely more than what you earn from a savings account. For example, if it’s paying off a high-interest credit card debt, then it’ll always make sense. It is because, you can save the amount, which you need to make as interest payments.
However, if it’s a mortgage loan, then making extra payments will save money in the long run, but you might not get any short term benefit.
When you should start saving a decent amount every month
Usually, as a ground rule, you can focus on saving in the following circumstances:
You’re able to pay off your outstanding credit card balance every month
You’re current on your mortgage and other secured loans
Based on the above facts and your present financial situation, you need to make a decision which works for you the best. To be on the safer side, you can work towards reducing your debt along with saving a decent amount. And, most importantly, plan a suitable budget to manage your finances efficiently.
Good Nelly writes articles to share her ideas and views with her readers and followers. Through her writing, she wants to help readers plan their financial future. She has been associated with DebtConsolidationCare for a long time. However, she writes for other websites and blogs, too. To know more about her, you can consider checking her blog at mywayofviewing.com.