Save For Retirement or Pay Off Debt?

February 10, 2022

When it comes to making decisions on how to spend your money, one challenge determining how to both save for retirement and also get out of debt. Here are some ways to figure out how you can do both.

Since the earlier you start saving for retirement, the more you will save with compounding interest, delaying retirement savings is not a good plan. However letting debt add up doesn’t make good money management much sense, either.

Although everyone’s situation is unique, here are steps to take to accomplish both goals:

Establish your retirement savings plan first.

This is especially true if your employer offers a matching contribution to a 401(k) or other retirement savings plan. Plan to contribute as much as required to receive the match. It’s like free money.

If this is not an option, consider opening a traditional IRA or Roth IRA. Once you have the account, set up recurring transfers from your financial account to make saving a habit.

Next, pay off high-rate debt.

If you’ve got credit card debt, payday loans, or debt that has variable or high interest rates — anything north of about 9% — tackle that next. (If this toxic debt adds up to more than half your income, consider seeking debt relief.)

For a psychological boost along the way, it can help to use the debt snowball method, where you focus payoff efforts on your smallest debt first — always making the minimum payments on the others, of course. Once that’s paid off, focus on the next-biggest debt, and so on. Read how to use a debt snowball.

“It’s helpful to have a win early on,” says Jessie Doll, a wealth management advisor at TIAA in Fairfax, Virginia. “Now I’ve got some confidence to do some of the other long-term things that need to get done.”

Third, establish an emergency fund.

It’s absolutely OK to start small. Get $500 put aside in a savings account. That’ll keep you from running up credit card debt over every unexpected expense.

You can build from there. Even having “at least a couple of months’ worth of expenses saved up is good planning,” Heider says. “You lose your job, you get laid off, you get sick — it gives you a bit of a cushion when you need it most.”

Fourth, focus on lower-interest-rate debt

Once you have high-rate debt wiped out and a solid emergency fund underway, think about throwing more money at other debt, like student loans.

If you have multiple student loans, consider focusing on one at a time. Say you’ve got four loans, each with a $150 minimum monthly payment, and you can afford to pay $1,000 a month. “I wouldn’t pay $250 on all four of them,” Heider says. “I’d pay $150 on three and $550 on the fourth one. Once that fourth one is done, your minimum now, instead of being $600, is $450.” That can help if a budget emergency occurs.

Finally, write down your goals.

There’s nothing like a plan to stay on track toward money goals.

Write it down: Heider suggests a spreadsheet with specific objectives, such as: “This loan will be paid off in 18 months. The next loan will be paid off in four years. In five years I hope to have $40,000 in my 401(k).”

This keeps you focused on the next goal when you pay off a debt. “It can help avoid the temptation of buying a new car when you really don’t need one,” Heider says.

Be explicit: “Naming the goals can be really helpful,” Doll says. “If I know that me not going out to dinner this week means I can take my children on vacation next year, [that] makes it much easier for me to make that decision.”

Build in rewards: Think about earmarking money for a trip or a special purchase when you pay off each debt.

Look for “leaks”: Track where your money goes each month to find dollars that could be better used for retirement and debt goals.

Tags: Retirement, Financial Faceoffs, Money Management