Bank Better, Live Better
savings vs paying off debt – which one should you tackle first?30/12/2019
Saving money and paying off debt are both important financial goals. But which one should you prioritise?
When it comes to saving or paying off your debt, it’s not as complicated as people think. The answer is simple: pay off your high-interest debts first. Here’s why.
Do the maths
It boils down to simple maths: interest earned on savings vs interest charged on debts. This depends on the type of debt you have and the savings account or investment you pay into. A home loan, for example, has a set long-term payment plan with lower interest rates and should be combined with some savings. Credit card or store account debt, on the other hand, has higher interest rates and should be paid off as quickly as possible. If the interest charged on debt is higher than the interest (money) you earn on savings, then pay off that debt first – you’ll save money in the long run.
Starting retirement on a clean slate
There’s another reason why settling debts is important: it’s tough to pay off debt carried into retirement when you don’t earn an income and rely on your retirement savings. It can be difficult to keep up with monthly repayments when you’re on a tighter budget and your debt could keep growing due to the increasing interest on the money you owe.
By paying off your debts before retirement, you should have more money available for living costs in your golden age.
Have something to fall back on
The moment you have settled the highest interest debt, focus on saving for emergencies. An emergency fund will keep you out of further debt when you have sudden expenses, for instance repairs to your car.
As a rule of thumb, this emergency fund should always be enough to cover your expenses for 3 to 6 months. But as a starting point, you can save up R5 000 to R10 000 as a buffer before paying more money into your debts.
Going forward, make it a rule to live within your means. In other words, never spend more than you earn. It’s bad enough paying back a student loan or mortgage without owing money on a store account, too. If you’re thinking about buying something you don’t need, but can’t pay for it in cash, then don’t buy it.
Simplify. Live better.
Sometimes credit can be used for the right reasons, like paying for a course that can help you get a better job. With the Capitec credit card, you have 55 interest-free days to pay back purchases made with your credit card. You also earn 4.75% on a positive balance, which means paying off your debt doesn’t only save you money but helps you earn some, too.
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