Ask the Expert: Save or Pay Off Debt?

Dear Ask the Expert, If I Have Debt, Should I Save?

Saving versus paying down debt. This is a common problem for many of us. Let’s consider factors that would help in finding the right balance for your own personal circumstances. 

• Do you have enough money saved for emergencies? Before aggressively paying down debt, make sure you have enough savings set aside for emergencies. This safety net reduces your reliance on credit cards or loans for unexpected expenses such as medical bills or car or house repairs
• What is the opportunity cost of saving versus paying off debt? Simply, what potential benefits are lost by choosing to save rather than pay off debt? If you are carrying high interest debt, for example, a credit card with an annual interest rate of approximately 24 percent while your savings could earn you a 2 percent annual return, it is more practical to pay down the credit card debt. The interest paid on the credit card will likely exceed the income earned from savings
• A balanced approach; saving some money while reducing debt.  This provides quick access to cash while still meeting your financial commitments

In conclusion, think carefully before using your savings to pay off debt.  Draining savings increases the risk of building up more debt when unexpected expenses arise.  Prioritise building emergency savings before aggressively paying of debt.  Once you have that safety net, you can reach a balance between saving and reducing debt that is right for you and your personal circumstances.

Lydia R. McCollin, FCCA, FCA, is the Managing Director of LRM Consulting Services Inc.

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