Suppose someone would give you 30,000 on one condition. You had to choose between two choices, pay off debt or invest it. Which would you choose?
A friend and I were having a discussion on the topic. I’ll share his strategy next post. He said to invest, I said to pay off debt.
Let’s assume your credit card debt costs you $380 a month but they are on low teaser rates. That is an annual payment of $4,560. Once the teaser rates expire in one year the payments go up to $594 a month or $7,128 a year.
Let’s do the math. By paying off the debt I have a guaranteed return of 15.2% the first year. The second year, I have about 25,000 left in debt (let’s assume most of the payments go to principal.) Through the next four years I have a guaranteed return of 28.5%. This would be a hard, guaranteed return to pass up.
Which one would you choose?
Vijay @ smilingdad
2 thoughts on “Pay off debt or invest?”
This is always a great question. In my opinion, as long as you have at minimum 12 months worth of emergency funds, I would payoff the debt. The emergency fund should be placed in a Roth IRA where it can be accessed if needed. There are so many unplanned financial events in life and they are much easier to handle if one is not burdened by debt. The percentage saved by investing means nothing if someone is pushed to the brink of financial collapse.
I like your idea of putting an emergency fund into a Roth IRA. Thank you, I think paying off the debt is the sensible option and am glad you agree. Then we’ll start focusing on my student loans. We have noticed that an emergency fund would have saved us from going into debt many a time. Exactly right, free cash flow is the key. 1% a week, we can do it. 🙂