Should you pay off debt or invest your cash, or simply keep your cash invested instead of paying off the debt?
This is a great question, and I get it often.
And the answer is….
IT DEPENDS!
Shocking answer, I know.
Most people, understandably, don’t want to have debt. Yet they accumulate debt. And once they have debt they realize that it’s not really good to carry debt and thus, they want to pay it off.
Others, just want to have the house “paid off in retirement”.
Whatever the reason, sometimes people get a little anxious to pay off the debt.
My first piece of advice is to take a deep breath and stay calm.
Yes, it is important to pay off the debt. And, it is even more important to get a strategy in place to pay off the debt, but to be able to think clearly and effectively you need to remain calm.
Next, what type of debt are we talking about? Credit card debt? Student Loans? Car Loans? A Mortgage?
Depending on the type of debt will determine how and when you pay it off.
For example, credit card debt tends to be THE worst debt to have.
That’s because credit card debt is not tied to an asset that appreciates or generates cash flow (like a piece of real estate) and credit card debt tends to have the highest interest rate.
Since this is the case, generally speaking, it makes the most sense to pay off any credit card debt you have first. However, I highly suggest never accumulating credit card debt in the first place. Credit cards are meant to be extremely short term ways of borrowing (30 days or less), but that’s for another blog post.
The next thing to consider is what are the interest rates of the various debts you have, and are they fixed rates or variable rates. Again, generally speaking, you will want to pay off the highest interest rate debts first since these debts are literally costing you more to carry.
Conversely, mortgages, tend to have lower interest rates since they are secured by the piece of real estate itself, and, thus considered less risky to the lender. Also, real estate tends to appreciate as well, and, there can potentially be tax benefits for having a mortgage. So it may or may not make sense to pay off a mortgage at a given point in your life (even though I know there is something to say for having your mortgage paid off in retirement).
Next, you need to analyze where you are going to pay the debt off from. Are you going to pay it off out of monthly income? Are you going to liquidate some of your taxable investment account? Or pay it off from your IRA or retirement plan (please don’t!)
And, if you are going to liquidate some assets to pay off the debt, like ETFs, Mutual Funds, IRAs, etc. you need to consider how this will impact your retirement plan. Your assets should be generating some kind of average return that you can use to compare against your interest rate on the debt you are considering paying off to determine if it makes sense to liquidate the assets and pay off the debt.
So, as you can see, there is a lot to think about when it comes to paying off debt or to not pay off some debt.
If you feel like you need guidance with how to manage debt and how to successfully, and intelligently leverage debt into your financial picture, please reach out to our office and we’d be happy to discuss your situation with you.
Important Disclosures:
Content in this material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the techniques and strategies discussed are suitable for all investors or will yield positive outcomes.