Learn the stock market in 7 easy steps. Get spreadsheets & eBook with your free subscription!

Handy Andy’s Lessons: Should I Use Savings to Pay Off Debt?

Not going to lie – times are pretty crazy right now, both globally and also in my own personal life!  Sometimes when things get crazy, you can tend to lose track of your own personal strategic plan, and that can be disastrous!  I mean, even myself, Mr. Invest everything at all times, has considered if I should use savings to pay off debt.

I think this is the third Handy Andy’s lessons with the first two focusing on starting a dividend portfolio and saving money with credit cards, so in true Andy fashion, let’s keep it going with some real-life experience from…well, you know…Handy Andy!

I mean, not only is there a lot of uncertainty in the world with the coronavirus still going on, but my wife and I just brought our first child into the world and it has me ‘in my feelings’ and feeling ‘some sort of way’ as the kids all say.

Everything that has been going on has really got me thinking about the cash flow for my family.  I have always been one to talk about the importance of having a “financial trigger point” and being sure to stick to it. 

A “financial trigger point” is the point where you decide to pay off debt instead of investing.  To explain better – since the Compound Annual Growth rate of the S&P 500 since 1950 is 11%, that means that you would need to pay off debt that was 11% or better to be able to match, or beat, the returns that you would’ve realized by investing into the stock market.

The main thing is that the stock market is very volatile.  Some years you will have 30% gains like we did in 2019 and some you will have negative years – it just completely depends on the market.  Paying off debt is a 100% guaranteed return so you have to take some sort of solace in that knowing that you’re getting a locked-in return.

To me, I have always set my financial trigger point at 6%.  To me, 6% was the point where I felt comfortable choosing to pay off debt instead of investing.  So, anything over 6% interest rate would get paid off and then anything under that would just get the minimum payment while I invested the rest.

Well, like I said, everything going on has been making me question if this is the right strategy. 

  • Do I need to pay off my debt faster? 
  • Should I use savings to pay off debt? 
  • Should I pull out of some of my investments to pay off any debt? 

If I was able to pay off some debt then it would free up cash flows for me in the future if things were to get rough.  Both myself and my wife work for the same company – what if the company experienced hardships and we were both laid off?

These are all things that I have contemplated and quite frankly, they have been bothering me a lot lately.

I know that this blog post might seem more of me just writing and being a bit emotional, but I’m really wanting to tell a true experience that I have been going through for quite a few months and hopefully some of you can relate to it.

Fortunately, I can say that as of right now, July of 2020, I have been able to stick to my plan and not adjust my financial trigger point.  But the only way that I have been able to do this is because I have had a very scripted game plan going in and it’s kept me on track. 

You might think that this game plan that I speak of is something that is just absolutely insane, but it’s really not.  It’s actually super simple:

  • Spend less than I earn..aka budget
  • Pay at least minimum payments on all debts and Credit Card in Full
  • Continue to put a lot into tax-advantage accounts like IRA, 401k or 403b, HSA, and 529
  • Put any excess funds where I will get the most bang for my buck

It’s really not too hard when I actually sit there and think about it, but because I have this process (and have had it for years) it has made it much easier for me to be able to stick to when the times get tough.  I’ll blow through the first three steps since we’re mainly here to talk about the fourth, but I want to quickly show you the entire process, so let’s go!

Spend Less Than I Earn

This is a pretty easy one but if you’re not spending less than you earn then you need to fix your habits ASAP.  Personally, I use Doctor Budget and it has helped me become a much more responsible spender, or saver, rather, and my finances can thank me for it. 

Doctor Budget is the perfect mix of simplicity, tracking ability and the ability to be customized to allow you to really get the most from your budget.

Of course, I am a bit biased, but I have stuck with it for about 6 or 7 years now, so if Mint or something else was really that much easier, I would’ve just switched to that.  I’m not going to try to persuade you to pick a budgeting platform that’s less efficient just so I can make $29 lol. 

I’m here to support you all and help you try to become financially independent – that’s why I started writing and it’s why I still write.  Finding good, unbiased financial advice, that isn’t swayed with some side agenda, is hard to come by.  If you love your budgeting platform, great!  Keep using it.

If you don’t, give Doctor Budget a try!

Pay At Least Minimum Payments on All Debts and Credit Card in Full

This seems obvious but it’s something that you have to do.  Even when I am debating to pay extra on debt or to invest, I always make it a point to pay the minimum payments.  If you don’t do that, you’re going to get nailed with a late payment that is going to be brutal and then your credit will also have a bad mark on it for a couple years. 

If you miss a credit card payment, chances are it’s going to completely wipe out any rewards that you were able to earn throughout the year, so just focus on paying off your credit card in full each month.

These are really non-negotiables in my mind and are absolute musts if you want to get closer to financial independence.

Continue to Put a Lot into Tax-Advantage Accounts like IRA, 401k, HSA, and 529

I wanted to say “continue to max out” but the thing is that this isn’t an option for everyone and it’s not essential for everyone either.  For instance, a 401k has a contribution limit of $19K in 2020, which is a pretty large amount of money and it truly is hard to be able to max that out.  Instead, I recommend that you max out your company match at the minimum.

If your company is going to match you up to 6%, you need to put in at least 6%.  A ton of people don’t max out their 401k and I think it is the biggest mistake that anyone can make with their 401k. You’re getting a 100% ROI right off the bat on the company match, or maybe 50% if that’s what the match is, but then that FREE MONEY will grow year after year and take full advantage of compound interest.  So just max that out.

For a Roth IRA and an HSA, I recommend trying to max out both of those as well.  Personally, I think that the HSA is the best investing tool that you can use as an investor because it’s tax free going in, grows tax free and then is tax free…. TRIPLE TAX ADVANTAGE ALERT!

The HSA limit in 2020 is $7,000 and an IRA is $6,000, so just try to max them out.  Even if you can’t, try!  If you put your money into a Roth IRA and you have to pull it out, then you can take out anything that you put in penalty free, so that should give you a little bit of comfort, but these tax advantages are just so major that I really think you need to take advantage of them whenever you can if you have the opportunity.

Put Any Excess Funds Where I Will Get the Most Bang for My Buck

To me, this is all about that trigger point that I mentioned above.  To me, it’s 6%.  To others, it might be something much less or much higher – all depends on the risk tolerance.  The thing that I have actually been going back and forth in my mind about was putting extra money into my wife’s Roth IRA that we recently opened.

With us just opening her IRA this year, and the tax filing date being extended until 7/15, that means we could still put money into the 2019 funding year for her IRA and essentially try to double dip.  But, honestly, I have had some potential concerns, primarily about the unknown of having a child and expenses and what not that I just don’t know what to expect in the future.

So, my thought has been that when I end the month with a little bit extra money in our account, should we pay off our debt or invest it in the market? 

The exact situation that I’m looking at is a 5% interest rate, so that means that it’s below my trigger point, and also if I chose to invest then it would be going into a tax-advantaged account.  So, literally every single sign points to why I should put the money into the Roth IRA, right?

RIGHT!

So, why is it so hard for me to do it?  The answer is because of comfortability.  People like to be comfortable.  I feel like I am the King of Risk and love taking chances, but I am even finding myself with feeling uneasy about this one.

To be honest, multiple times I have opened up the website of the company where we are borrowing money from and I’ve typed in an extra payment on our loan and then backed out.  I have been so close but I just kept thinking that I was making an impulse decision.

The answer is so clear to me when I actually put it on paper and write out my thoughts but in my head, things are much more confusing and my emotions are getting into the way of it.

I am a super analytical, process-oriented type of person, and I honestly never thought I’d have this dilemma, and honestly, I’ve probably been too tough and not empathetic for people in these situations. 

The major takeaway that I have for you to really do is to figure out your own process.  Create your own game plan.  You need to make sure that when things get tough and convoluted, you have a predetermined course of action about how you need to apply certain funds. 

If I didn’t have this game plan then I would’ve made a mistake with these funds.  Instead, I am now following the plan and staying on track.

This doesn’t just apply to extra money at the end of the month.  It applies to your game plan of budgeting – create your budget amounts for each category and stick to it.  It applies to your diet – create a calorie or macronutrient amount and stick to it.  It applies to chores around your house – create a to do list and knock that list out.

It’s all about a game plan and holding yourself accountable.  In the personal finance world, this is going to completely fall on you and guess what, you (and your family) are the only ones that will be affected by the good, or bad, decisions that you make.

Everyone’s process and game plan are completely different, and that’s totally fine!  The important thing is that you have one….and you follow it!

If you want to reach out to me about any guidance or just someone to help with a similar situation that I just went through, feel free to send me an email at andy@einvestingforbeginners.com.  I’ll be happy to help!