Should I Invest or Pay Down My Debt?

If you are living paycheck to paycheck and have very little money left over you may be in the position of choosing whether to invest and save your extra money or to focus your efforts on paying down debt.

If you can choose only one option, it may actually be wiser and more cost effective in the long run to pay down your existing debt.

The ideal financial situation

In a perfect world, you would be able to invest your money into a fund that would guarantee a 15% rate of return while you had a low 2% financing charge on your credit card. With that scenario, it would make sense to save instead of paying down debt as the money you saved would earn substantially more money then the amount of interest you would be paying out. However, the reality is just the opposite.

Why paying down debt is better

Credit card companies are in the position of finding alternative ways of generating more revenue as consumer spending is down (reducing the fees they collect allowing a business to accept their credit cards) and default on payments are increased.

The credit card company are filling that budget gap to raising the interest rates they charge to their customers to unspeakable highs. Combine that reality with the fact that interest rates are at their lowest point ever, thus finding a high return savings account or CD is extremely challenging during this time. 

Over the long run, the amount of interest you can be charged on your debt can mitigate any savings you manage to accrue at this time. Your number one goal should be to pay down the debt with the highest interest rates, so you stop putting good money after bad.

If you have a credit card interest rate of 20% and a savings account interest rate of only 2%, simple arithmetic will prove the value of paying down debt over investing.