Should I Pay Off Debts Or Save Money? Or Do Both?

Should I Pay Off Debts Or Save Money? Or Do Both?

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It’s quite common for people to want to save whilst in debt.

So you may find yourself wondering whether to pay off debts or save money. 

Maybe juggle both?

I’ve been there.

There’s no one-size-fits-all answer to this so I’m here to help guide your decision.

What Are Your Financial Goals?

First, lets discuss your end game.

What are your life and money goals? Especially your short term goals.

Life goals can include moving countries, changing careers or having a baby.

These elements will give you context as to whether you should pay off debts or save money.

The decisions you make with your finances can impact your life goals.

Say you decide to pay off debts instead of saving money.

This would be amazing but you may delay your life goal to move country as you’ll need money for that.

Some will be happy with that, others may not.

Be clear about your life goals as they will guide your overall decision.

Pay Off Debts Or Save Money

First of all, both of these ultimately achieve the same end, from a financial perspective.

One key measure of your financial health is a net worth calculation.

This weighs your assets and monies owned against your liabilities and monies owed.

Paying off debts reduces the monies owed side and saving increases the monies owned side.

Meaning whichever way you go your financial health (net worth) is getting better.

Let’s weigh up the options to pay off debts or save money and help you decide what to do.

Why You Should Pay Off Debts First

Generally speaking, it’s always better to pay off debts than to save money.

Let’s compare the numbers if you had £200 per month.

Saving £200 per month over one year will be £2,400. 

If the interest was 1% you’d gain a resounding £13.01 of interest in that year.

But, say you have £2,400 in credit card debt with 19.9% interest paying £200 a month.

You’ll pay off the debt in 1 year and 2 months with £271 interest charged.

You’re charged more interest with debt than you gain saving. A lot more!

When I did these calculations it was night and day.

Paying off debt gains you more money than saving does.

Further Reading: How To Pay Off Your Debts Once And For All.

Why You Should Save Money First

As lucrative as the numbers of debt payoff are, it’s just a piece of the puzzle.

There’s always a bigger picture with our finances and money goals.

Most people aren’t saving purely to gain interest but for other reasons.

You may decide to save money first if the goal outweighs the desire to be debt-free.

For example, one could choose to save for a car despite debts because the car is a need.

Would it make financial sense based on the numbers? Most likely not.

But neither are we robots who only make decisions based on zeroes and ones.

It’s about priorities.

Save money first if the benefit impacts your life more than the numbers of debt payoff.

Further Reading: How To Save Money Fast.

Save For Emergency Fund Or Pay Off Debt?

Another reason many weigh up this option is because of saving up an emergency fund.

Having an emergency fund is a game-changer for many reasons.

It empowers you to have breathing space and some cushion with your money.

An emergency fund is money saved to cover unexpected costs.

Some say use credit cards to cover emergencies as you pay off debts.

Sounds reasonable on the surface but makes no sense to me.

A credit card is not an emergency fund, it’s another form of debt that you must repay.

If you use your credit card for emergencies you’re getting into more debt.

This is why I’m an advocate of saving up something for emergencies regardless of debts.

How Much Emergency Fund Do I Need Whilst In Debt?

Aim to have at least 1 month’s worth of living expenses saved whilst paying off debts.

In his book, Dave Ramsey says to aim for £1,000 as a minimum buffer whilst paying off debts.

1 month’s worth of expenses or £1,000 is still better than nothing.

This cushion keeps you from getting into further debt from unexpected costs.

Further Reading: Everything You Need To Know About Emergency Funds.

Should I Use Savings To Pay Off Debt?

This is actually a good option.

Remember you gain more financially from being debt-free than saving.

So from a numbers perspective, paying off debts is the winner.

Say you have £5,000 saved and £5,000 in credit card debts.

Paying off your debt may clean out your savings but it frees up your cash flow.

The money that you were paying your debts can be used to rebuild your savings.

The beauty of debt freedom is that any extra money can go towards savings and investments.

Keep in mind the risk you’re taking if doing this with your emergency fund.

And if the money is for other goals consider the implications of using it to pay off debts. 

But you may prefer to have the security of money saved and be willing to keep paying debts separately.

May cost you more because of interest, but you may value the security of having savings more.

Pay Off Debts AND Save Money

As I said earlier, we’re not robots making decisions based on zeroes and ones.

You may desire to do both.

We had credit card debts but we wanted to save for a house, so we did both.

When you’re saving for a house interest is the last thing on your mind.

It’s a bonus but hardly a motivator, the house does that by itself.

How To Pay Off Debts And Save Money At The Same Time

Start by calculating the numbers.

Use your budget to work out how much you can afford to put aside per month to both.

Then, work out the minimum debt repayment you must make as a baseline.

Afterwards, work out how much you’re aiming to save.

Then decide how you’re going to split the money towards both.

The Numbers of Paying Off Debts And Saving Money

Say you can afford to put £500 per month from your budget.

You plan to save £10,000 for a life goal.

You could split it 60% savings, £300, and 40% debts, £200.

£300 towards savings will take 2 and a half years to reach £10k. 

When you get or have extra money it’s up to you which side you allocate it towards.

This method may take you longer to achieve both goals, it depends on the numbers.

Further Reading: How To Save Money On A Tight Budget.

Pay Off Debts Or Save Money

Which options are you leaning towards?

Paying off debts gains you more money financially as you’ll pay less interest.

Saving money begins the progress towards your life goal being achieved.

At least have an emergency fund despite which way you go.

Doing both is an option but adds more time to reach your goals.

Either way, both ways positively impact your net worth.

Take Action

Make your decision and take action towards it.

Check out our Ultimate Money Plan Budget Template to get in control of your money and smash your financial goals.

Share this with others if you found value in it and feel others should too.

Let us know how you’re getting along by getting in touch with us, we’d love to hear from you.

Knowledge is powerless without action.

So take action, and take care.

Thando