You’ve got questions, we’ve got answers. Each Monday we’ll tackle one of your pressing personal finance questions by asking a handful of money experts for their advice. If you have a general question or money concern, or just want to talk about something PeFi-related, leave it in the comments or email me at [email protected].
This week’s question comes from I never remember my burner name, though it’s one that’s asked frequently:
How to prioritize paying off student debt while also trying to save & invest?
This is what individual experts have to say* generally about an issue that affects each person differently—if you want personalized advice you should see a financial planner.
Focus on One Goal at a Time
Balancing debt and investing can be tricky. You should focus on things in this order to make sure you are making your money work as hard as possible for you:
Always make your debt payments on time: First things first: You should prioritize paying at least the minimum amounts due on your required debt payments on time. Not doing so can lead to penalties, extra interest, and higher finance charges, in addition to ruining your credit score.
Take advantage of your employer-sponsored retirement plan: Check to see if your company offers to match any percentage of your contributions to an employer-sponsored retirement plan, such as a 401(k). If it does, and you’re eligible to sign-up for the plan, then you should participate and take advantage of that free money.
Pay off high-cost debt: After continuing to make timely bill payments and evaluating your eligibility for matched retirement plan contributions, your third goal should be to pay off high-interest debt (more than 5%). For most people, the most expensive [student loan] debt is associated with unsubsidized loans [or credit card debt]. [*Ed note: Steps 1-3 can be done simultaneously.]
Build your safety net: After your high-cost debt is gone, you should begin building a safety net fund for financial emergencies. I recommend saving three to six months of living expenses, including your monthly housing payments, bill payments, utilities, and other recurring monthly bills.
Save for retirement: With your high-cost debt eliminated and safety net in place, you are now ready to invest for the long-term. By the time you reach 59½ years of age, or when you’re allowed to withdraw from your 401(k) penalty-free, that 401(k) match alone may be insufficient to support your post-retirement lifestyle. That’s why you’ll want to start saving for retirement early.
While there’s not much you can do to make your loans disappear overnight, with the right strategy, you can pay them off much sooner than you thought possible, and potentially even save yourself some money along the way.
Factor your minimum monthly payment into your budget: If you’re planning to make a nearly $1,000 loan payment every month, you’re likely going to have to cut back in certain areas that aren’t necessarily must-haves.
Use windfalls wisely: You can accelerate your loan payoff by putting any extra money you receive throughout the year, such as a work bonus or tax refund, toward your loans.
Consider refinancing: Another way to accelerate loan payoff is to lower the interest rates on your loans. If you qualify to refinance and consolidate student loans, it can lower your monthly payments or shorten your payment term, and it will save you money on interest over the long term.
— Nick Holeman, CFP at Betterment
It Doesn’t Have to Be All or Nothing
Don’t get caught up in the idea that it has to be all or nothing when you pay down debt or invest. Take a look at how much you’re putting toward student loan debt. What if you reduced that amount by 25% and invested the difference? You’re still putting 75% of your extra payment toward reducing student loan debt, but now you’re preparing for your future as well.
Check with your employer to see if they offer a retirement plan. If there’s a match, be sure to take advantage. Not only can it help you prepare for retirement, but a match is free money. If you have to divert a little from your extra student loan payment to get free money from your employer, do it. It will add up to more than you pay in interest on your student loan in the long run.
-Miranda Marquit, Financial Expert at Student Loan Hero
You’re Going to Have to Make a Budget
Create a budget that includes monthly debt payments and savings contributions (savings account and investing). Track spending daily, weekly or monthly. Use any extra money left over towards paying off debt and contributing to savings.
Create a debt payoff plan that includes column headings for the total debt owed, past due amounts, due date and interest rates for each account. Use an app, software or pen and paper to keep track of debt payments and set reminders [in your phone, calendar, or planner] to pay debt and contribute to a savings and investment account. Set a target date to pay off each debt, and use a debt payoff calculator to determine when each debt will be paid off.
Determine which payoff method is right for you:
Debt Snowball: Start with the smallest bill first and pay it off. Then add the money from that bill to the minimum payment for the next bill (debt snowball method) to pay debt down faster.
Debt Avalanche: Pay off the debt with the highest interest first.
Minimum Payments Only
Next, pay for basic necessities first, then pay lower priority bills:
High Priority: Rent/mortgage, utilities, car payment, legal debt (child support, alimony, taxes)
Medium Priority: Insurance, student loans, judgments, collection accounts
Low Priority: Internet, phone, cable, credit card debt, etc.
Contact the creditor to see if they offer repayment programs or negotiate a payment plan. Offer a good faith payment or a lump sum payment to use as negotiation to request that any fees or finance charges be waived.
Regularly contribute to a savings and investment account. Automate savings and investing contributions. Save at least 1% of your monthly income (the ideal amount is 10% to 20%). It’s great to pay down debt but you will go back into debt again if you have no savings.
—Harrine Freeman, CEO/Owner of H.E. Freeman Enterprises
Safety Net > Pay Down Loans
An emergency fund is a must-have. Building financial security is a must, and is a big part of the equation of paying down student debt vs. saving. While both moves can help build your net worth, there’s something to be said for the safety of liquid cash in the bank. That’s why building an emergency fund is a must-have before you can go gung-ho on paying off student loans.
When it comes to federal student loans, you have a lot of options such as income-driven repayment or deferment. You won’t have those same protections on other debts or areas of your life, so you’ll need to save your own financial life raft: your emergency fund.
Shoot to sock away at least one month’s worth of expenses as an emergency fund, and possibly up to three. Once that’s taken care of, you can revisit your financial goals and decide which goal to focus on next.
-Elyssa Kirkham, Student Loan Expert at Student Loan Hero
*Responses have been lightly edited.