This is Rule 9 in my 10 Rules to Eliminate Debt and Change Your Life
Should I pay off debt before investing?
If you are asking this question, let me first say congratulations. This is a very important question to ask ourselves. It is one that usually follows some personal epiphany, and it means you are serious about your long term financial outlook.
Back in 2008 when the economy crashed, the question of whether I should pay off debt before investing entered my mind. I was tired of feeling like I was falling behind and was desperate for a way to catch up.
Investing seemed like a way out.
So why did I choose to pay off debt before investing? While making gains in the stock market would have made me feel happy, they didn’t seem like they would outweigh the negative feelings of owing so much money and the guilt of living a life that my paycheck couldn’t cash.
Why Pay Off Debt Before Investing?
Debt is a negative investment.
It is the opposite of investing.
That makes the act of paying off debt like an investment. In fact, paying off debt is like an investment with a GUARANTEED return.
If you have $20,000 in credit card debt at 10% interest, every time you make a payment you are earning a “return.”
Most types of investing are gambling. They aren’t much different than going to a casino. You can do all the research you want, but you could lose everything without warning.
Paying off debt is a guaranteed win if you are charged interest for carrying it. Please keep in mind that I am generally speaking of consumer debt like autos and credit cards, as well as student loans.
Mortgage debt is a different animal. I probably wouldn’t urge you to pay off your house before funding an IRA.
The Right Answer Isn’t Always the Best Answer
When asking yourself whether to pay off debt or invest, most of the conventional wisdom applies a simple litmus test: if you can earn a higher return from investing than your debt is costing you in interest, you should invest.
If we were to extrapolate this type of personal finance “advice” to other topics, we would see very short articles like this:
How to Get Out of Debt in Two Easy Steps!
Step One - Stop acquiring new debt.
Step Two - Pay off existing debt.
While the advice is technically correct, it is not helpful to most people. It ignores the behaviors - the why - behind the situation, and simply presents the problem as a simple, linear equation. I feel that this advice is too simplistic, and ignores one of the basic philosophies of Married (with Debt), which is “personal finance is about more than math.”
Like Dave Ramsey says, if you are such a math genius, how’d you get in debt in the first place?
The truth is, money is very powerful. It brought you to debt with its rewards of Stuff. For many, getting out of debt isn’t about just moving some numbers around in the math equation of our finances. It’s about making big changes for big results and often requires a completely new way of thinking.
For me, the negative feelings of being in debt were so powerful that they were the fuel for my debt payoff. Honestly, if I were carrying debt at 10% interest and I KNEW I could earn 15% by investing instead, I would still pay off the debt first.
If you think that is stupid, so be it. You just aren’t as serious about debt freedom as I am. Making a 5% “profit” from my money is not worth being a slave to my lenders.
By paying off debt first, I’m trying to change my life
So now I am forcing myself to be disciplined to make up for the many years when I wasn’t. If you can’t shake the nagging feeling that you could be making a couple hundred bucks extra a year by investing instead, you probably haven’t conquered those urges of self-gratification that got you into your mess in the first place.
By waiting to pay off debt before investing, I am building my character and showing myself that I have what it takes to do what I feel is right, even when my brain is trying to tell me otherwise.
This type of thinking is also why we pay off debts starting with the smallest balance rather than the smallest interest rate. We believe that the psychological benefit of some early victories will propel us forward and give us the momentum we need to win, and that this momentum is more beneficial than the money we’d save if we paid the highest interest rate debt off first.
By paying off debt before investing, I’m building momentum the safe way.
I’m not trying to run before I can walk.
10 Rules to Eliminate Your Debt and Change Your Life
1. Combine Incomes, Finances and Efforts
2. Spend Less than You Earn
3. Make a Monthly Debt Budget and Live by It
4. Pay Off Debts Smallest to Largest, Regardless of Interest Rates
5. Make Big Changes for Big Results
6. If You Don’t Need It, Sell It
7. Save Monthly for Large, Anticipated Expenses
8. Set Aside Some Money for Fun
9. Pay Off Debts Before Investing
10. The Goal of Work is Retirement
It would be great if more people understood this advice. I have often questioned whether I should invest instead of paying off debt. At the end of the day the answer was easy. I want to be debt free. If I had investments equal to my debt, I would probably sell them to become debt free. To me, my debt is still my burden.
The other thing to consider is that if you invest the same amount you are currently paying off your debt ONCE you are debt free, you will accumulate investments very quickly. It will probably be the first time you have really saved and moved forward since burying yourself in debt in the first place. It is also likely that you will ‘catch up’ to the same investment point as others anyway because you will have learnt the discipline to minimize your expenses and maximize your investing income and potential.
Thanks for reading, Bec, and for your comment. I think most disciplined people will eventually catch up, if not pass their peers.
My point exactly. Most people never get around to investing, same as not many people consciously pay off debt quickly. I am getting excited about getting my mortgage down to the next $10,000 milestone in the next 2 months. It is so exciting. It will bring it down to what I call ‘large car loan’ level. One step at a time! My dear hubby is chomping at the bit to invest when we are done!
Yep - not only will you have a large sum to invest, you’ll also have a paid-for house, which can be turned into a money-making asset as well.
This is something I’m always thinking about. All of my debt has a pretty low interest rate, and I would most likely earn more by investing. But I want the peace of mind of having the debt gone.
I feel the same way. I’d have to completely change mindsets and I’m not sure I could multitask with any level of commitment to either. Thanks!
I keep getting stuck on the concept though that the car loan and my wife’ student loans will take us probably 5 years to pay off. We’ll be 37 then. ARe we supposed to wait until we’re 37 to invest in our retirement? I feel like we should be putting into a retirement accoutn before we pay off our loans because we won’t exactly be in our 20s when we pay them off.
That’s an interesting dilemma. I’m not gonna say you have to do it one way or the other - that’s not my style
I will say you should do what is most comfortable for you. I know I would freak out if I left the remaining balance on my student loan sit there.
I don’t think 37 is too late to catch up though.
There is a very satisfying feeling when getting out of debt. So I do agree with paying off debt before investing. My problem is that my debt is on a 0% balance transfer. This gives me very little motivation to pay it off. I need to remind myself that the balance transfer period will eventually end and they’ll start charging me interest.
I remember the days when I would seek out new balance transfer opportunities. I even remember people taking out new cards at 0% in order to invest the credit line elsewhere. Most people eventually get burned.
Thanks for reading, Jeremy!
Thank you for this write up. I am strong believer of paying off your debt while also investing/saving at the same time. Put more of your money towards paying debt until it is paid off.
Hi, Yinka, thanks for stopping by. I consider paying off debt to BE investing, so I’m technically doing both too.
Thanks for your comment!
Not sure I’d go along with paying off debt at 10% instead of a guaranteed investment at 15%, but I hear you on debt freedom. To each, his own, and since there’s no such thing as a guaranteed 15% investment return, the question is academic only! And I totally agree with you on the way to look at paying off debt vs. investing. Mathematically, payments on debt with a 10% interest rate are exactly the same as making an investment with a guaranteed 10% pre-tax return. Because of the guaranteed aspect of the return, I think I’d pay off debt with a rate over ~2.5% before I put money into risky (which means all) investments. With the nationally highest 1-year CD rate at 1.08% today, 2.5% guaranteed is darn hard to beat!
Exactly, Kurt. This debate used to be stronger when you could get a savings account with 6% interest. Now it’s tough to find anything over 1%.
Thanks for stopping by!
I think it’s a good idea to pay off high interest debts before starting to save for retirement. However, if the only debts you have are a low-interest mortgage and/or federal student loans, I’d say you should make retirement savings a priority. We’ve been saving all through our debt repayment plan, although not as much as I’d like. The majority of our debt is student loans, so I don’t feel bad about saving a little for retirement.
I agree on the mortgage debt - that can wait. One of our student loans was at 6% so we decided to pay everything off before investing. Thanks for reading, Ryan.
Paying off your debt feels so good! The only debt I have left is just my 0%, 2.25%, and 3.75% loans. Even though I choose to invest first in my 401k and IRA, I do acknowledge that this debt has got to go and would love to see my budget increase once it’s gone!
I agree- it feels good. Probably because spending more than you earn is a vice of sorts, and it feels good to make things right. I like the idea of a clean slate.
Thanks for reading MMD!
It is almost always worth paying off debt before making investments in terms of high interest accounts etc. However this might not be true of you have a very lucrative business to invest in, that yields more than what you save by reducing your debt. Sometimes a debt can be worth carrying if you’re fairly sure you can out that money to good use.
That is a good point - sometimes the best way to get ahead is the risk of debt for business purposes. I don’t feel qualified to offer advice in this arena, but I would urge people to follow their hearts and dreams.
Although I’ve been listening to Dave Ramsey on the radio for nearly 15 years and have seen him live twice… I still go against this piece of non-conventional advice. By “go against,” I don’t mean I disagree. It is good advice. I’ve just chosen to keep investing while paying down debt. I believe that the power of compound interest will win out in the long run.
I have a lot of those, things I don’t disagree with, but things I don’t do. I think it’s important to seek out the advice of others, but not be afraid to modify it if it works better for you a different way.
I’ll race you to retirement!
Hey! First time reading your blog - just wanted to say great post!
Hey Scot - you’ve commented here a few times before - glad to know I make a good first and second impression
i like to dream about a future state with no debt, where i have enough cash flow to get the things that we need, and no doubt start investing for our future..
we are well on our way, but there remains much to be done
You guys will be there before you know it. I too can’t wait - it’s almost here. Thanks for reading!
The market is about patience not about solving problems. I would invest if you have money and pay off debt at the same time. There is a balance that needs to be met.
Thanks for offering a differing viewpoint. For me there is no balancing debt - I want it dead. It’s definitely about each person’s goals, wants and needs, though.
Absolutely agree, especially when it comes to high interest loans like credit card debt. The only exception that I can think of is when an employer matches or half matches your 401k contribution up to a certain amount. That’s a 50-100% ROI and trumps the $ lost with the 15-20% interest you pay on your cc loans.
That’s a good point worth considering. Me? I’d probably skip the match just to show how p/o’ed I am at myself. Sorta like punishing myself. Thanks for reading!
Another great piece because you take a controversial position on a hot topic.
It’s funny to me that people think a 10 percent rate on a credit card is awesome, while 10 percent is eye-popping as an investment return. Imagine being the credit card company and getting a guaranteed 10 percent! Fantastic!
Just think - we used to get 1/2 that from an online savings account five years ago. And banks are still calling 1% “high yield.” I guess money isn’t relative.
Thanks for reading Joe!
Hi.. Thanks for the help.. Actually, only few people knows about how to manage their money.. This rule should be spread so they know how to avoid certain problems..
I agree with you on this. I think getting rid of Debt should be on higher priority than Investing. This becomes more import if debt is required to be payed over a lesser period of time or high interest loan. If a debt is to be payed over a longer period and is a smaller part of your earnings (example in a mortgage) further investing would be a good option.
I completely agree with paying off debt before investing heavily in non-retirement accounts (401(k) and IRA). Let’s face it: debt is stressful. By eliminating the stress, it can make investing more pleasurable.
Great article! A lot of people don’t realize that it is more important to pay off debt before making investments. So much money is lost on high interest rates in for debt that it doesn’t make sense to think about investment until the debt is gone!
The point made about paying off debt is a good one. Why keep hold of debt that incurs a high interest rate and at the same time have savings which are earning a really low rate. The return isn’t worth it, much better to clear the interest bearing debts first.
Great points Geoff. Glad you stopped by!
I have a two fold strategy. I automate my investment savings, and work extra hard to pay off my debts. I just want a nest egg, when I’m done paying off my debt.
yes i agree!!