A common question when someone is trying to get out of debt is how they should balance this goal with the idea of saving and investing for the future. They say something like, “Barry, I really want to be out of debt, but I also really want to be able to have a good retirement.” My response, even though it sounds a little sarcastic is this: who doesn’t want to be out of debt and who doesn’t want to have a good retirement!? So how do you balance those goals? You and I both know there is only so much money to go around each month.
Let me just hit this one head on. What is important to you RIGHT NOW? Do you really want to be out of debt and on your way to total financial freedom? If so, then your best “investment” while you’re in debt is to put all your efforts into getting out of debt. I don’t care if you’re at retirement age or not. If you have debt, focusing your energies on getting out of debt is the best way to invest your money. PERIOD. Whether you’re past the magic age of 65 or not, becoming debt free still dramatically reduces your monthly income needs because without debt, you don’t have debt payments! Without debt payments, you are much less restricted on what you must do with your income. If you have a credit card debt of $10,000 at an interest rate of 21% (which is pretty standard; it is even higher for many cards), then you’re losing $2,100 per year just to have that debt out there. I know that oversimplifies the math, but if you had your choice of paying off that $10,000 this year or investing $10,000 in the stock market, which would you choose? This is not a trick question! You know you’d be “earning” 21% by paying off that credit card. Who knows what you’d get in the stock market. I’ll take a guaranteed 21% return over the unknowns of the stock market any day of the week.
When you are in debt and have made the commitment to working your way out, paying off your debt is by far the wisest investment you can make. Be methodical, disciplined and consistent. Set goals of paying off your debt within a reasonable time frame (a budget is key here), then use every available dollar that you can scrape together to make it happen. This is the power of focus. Don’t try to muddy the waters by putting 5% into this savings account, another 5% in that savings account, then another 5% in retirement, leaving “whatever extra I can come up with” toward paying off your debt. While that is the approach of a lot of people, that only tells me you aren’t serious about getting out of debt.
When you are out of debt, you can get really serious about investing for retirement, for a bigger home, a nicer car or any other thing that can wait a few years. So what’s the process to this type of focus? First, let’s assume you have a small emergency fund in place (at least the amount of a single paycheck). This will keep you from being dependent on credit if anything goes wrong. From there:
- Cut Expenses – Stop spending any unnecessary money, including investment for retirement and other long-term plans (remember, this is TEMPORARY).
- Maximize Income – Do extra projects on the side, take on extra assignments at work, etc. Get some extra money coming in to boost your ability to pay off debt.
- Get current on everything – if you are past due on any debts, you’re spending a LOT of unnecessary money each month in late fees and other penalties.
- Use Dave Ramsey’s debt snowball method to arrange your debts.
- Make a call every time you’re ready to pay something off. If you make a call to your creditors when you’re ready to pay that last payment and ask them to waive a month’s worth of interest or some other fee, you’ll often save some money. At worst, you made one last phone call to the company to bid them farewell.
- Investing while in debt requires a careful approach.
When you follow these five steps, you’ll be earning prime returns on your “investment” as you have less and less debt. Focus your intensity and get to it!
Just wanted to say what a great site and thank you Barry for these great tips on dealing with debt.
I am hosting a linky and would love it if you popped over and linked this post! Seasonal Celebration Linky http://naturalmothersnetwork.com/seasonal-celebration-sunday/seasonal-celebration/ Thank you 🙂
Thanks Rebecca!
Great advice! I got here from the Frugal Days, Sustainable Ways bloghop. I love the idea about calling credit card companies when you’re gong to pay it off, in hopes to reduce a recent fee or interest charge. Never thought of that! 🙂
We hope it saves you some money! 🙂
“MAKE A CALL.” I can’t believe I haven’t heard this one more. What an opportunity! Depending upon one’s current credit situation, sometimes it makes sense to close a credit account after paying it off (obviously, not if you intend to need your credit in the coming months to buy a house; debt ratios get skewed and all that). I might use this method of “make a call,” and also, depending on their willingness to budge, let them know that I’ll be closing the account because I have other accounts that are more flexible that I prefer to use in the future (if they don’t want to play nice and forgive some interest or something).
Any ideas on how well this works with the IRS or other State institutions? Unfortunately, due to my excellent ability to procrastinate, these monsters are the big offenders in my penalty and interest bucket.
Unfortunately, the IRS and other government debts are often not bankrupt-able and thus they are almost totally inflexible. I have seen people negotiate with these types of debts, but it is rare there is much progress made without good reason for needing assistance with the interest or penalties. Nonetheless, I still tell everyone to ALWAYS make that phone call and negotiate. The absolute worst that happens is you get told no, which motivates you to get rid of the punks all the more quickly! ;0)
sorry! I am saving for retirement at the same time…just to distinguish the emergency fund vs. retirement savings. 🙂
Never be sorry! Always ask to clarify if you’re unsure. 🙂
Thank you, Barry, and I agree. I do have a financial advisor that often suggests otherwise but in this I am not in agreement with him. I have just this year created a budget which I hope first to create an emergency fund for savings of up to 6 months or better expenses. Any savings after that will then be popped onto the mortgage. Which now that I think of it, would you agree with creating a safety net first? My sense of financial safety requires it but I’d like your opinion too if I may. Sorry I did not think of this in my first question!
TeresaAngelina
I agree that you need a safety net before attacking your debt. If you have lots of consumer debt, build an emergency fund equal to a single paycheck (as I mentioned in the post). Once you’ve paid that off and are left only with a mortgage, then I think you should build a larger emergency fund (six months of expenses is ideal). In the perfect world, you’ll have no debt but a mortgage, you’ll then put together a 6-month emergency fund and then get back at attacking the mortgage with little or no fear of ever having to use credit again!
Hello Barry
When you refer to debt, are you referring mostly to non-mortgage debt or do you also include that? I ask as I live in one of the most expensive real estate markets in Canada, the Greater Vancouver area, and my little two bedroom, just shy of 875 square foot condo is valued at just shy of a quarter million. (I live by the way in an outside community of Vancouver…Vancouver is much worse.) Needless to say, the mortgage is high. And needless to say I was green with envy at your low real estate prices when I read you and Stacy had paid off your mortgage! I hate debt. And other than my mortgage – which is seriously on the hate list – I have no debt.
TeresaAngelina
Thanks for your comment. You’re right. I’m referring to major consumer debt and IN MOST CASES not to mortgage debt. If you’re mortgage is something that with focused intensity you could pay off in two or three years, I’d include it. Otherwise I would say that retirement savings cannot wait for much longer than that and I would save for retirement while putting any extra available on the mortgage.
Does this apply to fairly low interest and long term loans like mortgages as well? This seems like a no-brainer with high interest credit card debt, but would you recommend that a person with with a mortgage put all retirement savings aside as well, in favor of putting extra towards the mortgage until it is paid off?
Excellent point! I assumed (I know, I know, that’s dangerous) that this strategy would apply to getting rid of all your major consumer debt. I would appreciate the chance to clarify. I am not as concerned with the interest rate as I am with the term of the loan. If you have a mortgage or a student loan that would take you more than two or three years of focused intensity to pay off, I would suggest you save for retirement and just put any extra you can into getting rid of the student loan first, then the mortgage. Thanks for bringing this up!
This is awesome, and makes me MORE excited and focused on getting out of debt. We had made a plan for our tax return next month, but I think we’ll be changing that plan. WOO!
You go, girl!
Good advice Barry 🙂
Thanks! 🙂
Good advice as usual madam! Loving it!
That was from the hubby, and I’ll pass along your kind words. 🙂