You work hard for your money and do your best to make it work hard for you. With multiple financial goals to manage, you may wonder whether it's better to pay off debt or save up your money.
In an ideal world, you'd likely try to balance both—each goal is critical for your financial future. But depending on your situation, you may have to prioritize one over the other.
Here are some ways to determine whether to save money or pay off debt first.
When to prioritize saving over paying back debt
All debt may feel like a burden, but it doesn't all carry the same weight. You likely have various interest rates and types of debt, and certain investing choices may offer advantages that outweigh others. It may make sense for you to put more toward saving than paying down debt if:
1. You have low-interest debt
Generally, low-interest debt has a rate that's less than the going rates for mortgages or student loans, which tend to be some of the lowest to promote access to homebuying and education. As noted by
It's certainly a best practice to always pay the minimum due on a debt, but what about "extra" money? Is that better off going to low-interest debt or savings?
Thrivent financial advisor Colin Mildred notes that paying extra on low-interest balances can cut overall interest charges and eliminate payments sooner, which can feel rewarding—but you can also advance your financial goals by using the extra money in other ways. He points out that it may make more sense to put those additional dollars in an investment that provides a higher return than what you're paying in interest.
Say, for instance, you locked in a car loan at an amazing 3% annual percentage rate (APR) for 48 months. At the same time, you notice
2. You haven't built up an emergency fund
Having
Choosing to save for this rather than paying extra on your debts can be wise because having cash on hand may keep you from accumulating more debt. If you have enough money stored up—especially if it's earning interest in a high-yield savings, money market or other investment account—you may be able to avoid borrowing or running up credit card bills if you lose your job and don't get another right away.
3. You aren't maximizing your 401(k) contributions
If you have an employer-sponsored retirement plan, like a
- Tax advantages. You can contribute to a traditional 401(k) with pre-tax dollars, which reduces your taxable income for the current tax year. Plus, you're not taxed on any earnings as your money grows over the years until you withdraw it.
- Compound growth. The earlier you can put away even a little money, the better.
Investment compounding means you can grow money on top of money as the earnings are reinvested. “The sooner you start saving, the more time your investment has to grow,” Mildred says. “Every year, even every month you wait, is one less opportunity to reap the benefit of compounding.”
- Employer-matched dollars. Some employers offer to
match your 401(k) contributions up to a percentage of your salary. This can effectively double your contribution at no extra cost to you.
Mildred advises that paying off debt shouldn't come at the expense of saving for retirement, especially if your employer is chipping in as much as you are. When there's matching available, "it's like leaving free money on the table if you don't contribute to your 401(k)," he says. "It's important to do as much as you can to get the free money."
4. You could gain ground on other goals with growth potential
In addition to saving for emergencies and retirement, diverting some money to save for large purchases you'll need can help you avoid taking on more debt in the future. Money that you plan to use for major purchases at least five years out could be invested in short- to intermediate-term savings and investment accounts so it has time to potentially grow.
Here are some options to consider:
CDs, high-yield savings accounts & money market accounts
Funds placed in a
Must qualify for membership in TCU.
Any data or personal information collected by websites other than Thrivent is not covered by Thrivent's privacy policy. We recommend you read the privacy policies of those sites as they may be different from Thrivent's policy.
Mutual funds
With the potential to grow earnings faster than interest in CDs or high-yield savings accounts,
How to evaluate good vs. bad debt
When to prioritize debt repayment vs. saving
As important as saving is, sometimes overwhelming debt can make it difficult to save while managing monthly expenses. If this sounds familiar, you may want to prioritize
Understand, though, that you don't have to pay off all your debt before you save. As mentioned, not all debt carries the same weight, so take time to learn the differences between good
Here's when to consider paying down debt ahead of saving:
1. You're holding high-interest debt
If you have high-interest debt rather than the low-interest kind, you should aim to pay it down as quickly as possible and keep it down. As noted, low-interest debt is generally less than 6%, so any loan or credit card that charges you 7% or more is high-interest debt.
The reason it's better to pay down debt rather than save in this case is that high-interest debt often has rates that let the balance grow faster than you can keep up with. It makes it very hard to gain ground on your debt if you're doomed to spend more in interest than your money could make in savings or investment account gains.
"We live in a world where you can push buttons and have stuff at your door the same day," Mildred says. "Consumer debt, usually because of the interest rates, will likely grow faster than most investments."
Credit card companies in particular consistently set their rates to be a certain amount higher than the prime rate, commonly reaching
So if you have high-interest debt, consider paying more than the minimum payment to keep accumulated interest from spiraling out of control.
We live in a world where you can push buttons and have stuff at your door the same day. Consumer debt, usually because of the interest rates, will likely grow faster than most investments.
2. Carrying debt makes you overly anxious
For some, debt comes with a mental and emotional cost that can feel too heavy to bear. If you're facing large debt balances that make it hard to sleep at night, you might choose to pay down the balance to a more manageable amount before shifting toward your savings goals.
This may mean you're missing out on growth opportunities, but that may be worth it to you. Just remember that building savings can also bring you peace of mind by protecting you from needing to take on more debt in the future.
Balance your saving & debt repayment with a budget
The best way to tackle multiple money goals, including lowering debt while also building savings, is to map out a plan. By creating a spending plan, also called a
These budgeting basics can help you create a strategic plan to balance your savings and debt repayment:
- Track income and expenses. Use mobile or online budgeting apps to understand how much money you have coming in each month and where it goes. You can start with Thrivent Credit Union’s Leaving ThriventYou are now leaving the Thrivent website. Deposit and lending services are offered by Thrivent Credit Union, the marketing name for Thrivent Federal Credit Union, a member-owned not-for-profit financial cooperative that is federally insured by the National Credit Union Administration and doing business in accordance with the Federal Fair Lending Laws. Insurance, securities, investment advisory and trust and investment management accounts and services offered by Thrivent, the marketing name for Thrivent Financial for Lutherans, or its affiliates are not deposits or obligations of Thrivent Federal Credit Union, are not guaranteed by Thrivent Federal Credit Union or any bank, are not insured by the NCUA, FDIC or any other federal government agency, and involve investment risk, including possible loss of the principal amount invested.
Must qualify for membership in TCU.
Any data or personal information collected by websites other than Thrivent is not covered by Thrivent's privacy policy. We recommend you read the privacy policies of those sites as they may be different from Thrivent's policy.
- Maximize discretionary income. When you subtract your expenses from your income, you'll have a monthly amount that can go toward building savings and paying down debt. Maximize this number by decreasing unnecessary expenses.
- Set spending guardrails. Self-imposed spending limits can help ensure your money goes where it needs to go. A common practice is the
50/30/20 budget . With this plan, 50% of your income goes toward bills and needs, 30% toward wants and 20% toward goals, like saving money or paying off debt.
- Check in regularly and adjust when needed. Compare your actual spending to your plan to see if you've veered off track. If so, make adjustments to your budget, such as shifting how much you put toward paying off debt vs. saving.
Create a plan for your savings & debt
Setting financial goals is only the first step. Having a strategy is what makes the goals achievable over time. Whether you want to pay off debt or save for future goals—or both—you can create a plan based on your resources and personal situation. Working with a