It's a question so many of us have during our lifetime – is it better to save or pay off debt? Mandy Kelso, Head of Financial Education at TD Bank, offers insights to help you make the best decision for your specific situation.
Mandy notes that stashing money for emergency use or short- and long-term financial goals and juggling debt at the same time can be daunting. A great place to start is by getting organized. Seeing your whole financial picture will help lead to good decision making – especially since there's no one-size-fits-all magical solution.
Begin by getting really clear about your cash flow. What money's coming in and going out? It's okay to start small. Maybe today you write down one thing: $100/month on electric, then keep adding every day until you've accounted for all your expenses and income. Regardless of how long it takes, capture this data in a budget spreadsheet―even a simple one―so you have a bird's eye view of your finances and can review them easily and crunch numbers routinely
Remember to track not only traditional accounts like your bank and credit card but also payment apps where you receive and send money, digital subscriptions that auto renew, and popular food, ride and other apps that are frequently used. Then, compare your positive cash flow to short-term bills and debts.
Budget! Budget! Budget!
Once you have a handle on your overall financial picture, it's time to create and commit to a budget that will empower you to save and attack debt simultaneously.
How much do you need to save?
You might be wondering how much to save before you start chipping away at debt. A good rule of thumb is to build up enough savings to cover roughly three months of living expenses. The emergency savings should be in a liquid account, either a savings or money market, so that you can easily access it in case of an emergency. Some folks think of their lines of credit as an emergency buffer. However, a flux in finances due to job loss, a medical emergency, death or other unexpected circumstances could impact your credit should you become behind as a result which might in turn limit your access to your lines of credit. With a savings or money market, you'll know the money will be there when you need it.
Here are a few resources to help get you started on the budgeting front:
Have a conversation about money
Talking about money is sometimes discouraged if not outright taboo, often leaving people to suffer in silence. The reality is everyone should be talking about money―especially among family. Finances are a team sport. It's hard to expect partners and children to adhere to a budget if they don't even know the rules. Working together and setting expectations gives everyone skin in the game. Grappling between wants and needs, understanding financial demands and goals, and sharing responsibility helps set you up for budgeting success.
Get loved ones around a table and crunch numbers. Explain why new tires might take precedent over a vacation or how hand-me-down shoes might free up cash for a concert ticket. Get clear and ask everyone to commit to saving in a way that also frees up some funds to pay down debt.
How to approach debt
Once you've built a savings cushion, there are multiple ways to start tackling debt. Here are two of the most common:
- Avalanche approach: Eliminate higher-interest debt first. This is smart because it saves you money in the long run but can take longer to see the results.
- Snowball approach: Pay off smaller balances first. Some people prefer this because of the psychological win of a sense of accomplishment as each debt is paid off. However, you might pay more interest overall.
Regardless of which route you take, there's help if you need it. Nonprofits like the National Foundation for Credit Counseling and American Consumer Credit Counseling can help you take control of your financial life. In addition to helping you navigate debt, credit counselors can help you research options such as college forgiveness programs and resources like food banks and childcare.
Remember, not all debt is bad debt
It's important to remember that carrying and repaying debt successfully can increase your credit score. The key to good debt is ensuring it is:
- Manageable: Borrow within your means. The sweet spot is usually to keep your debt-to-income ratio around 40%. Creeping beyond that could begin to impact your credit score.
- Varied: Showing you can handle a mix of debt, such as a mortgage, car loan and credit card, may be reflected in your credit score.
- Paid off on time: Responsibly paying your debt by its due date can help strengthen your credit score.
When it's all said and done, the biggest way to save and pay down debt is to begin. Get organized. Create a budget. Take a team approach. Consider your options. Get help when you need it. In time, you'll see that little by little your savings will grow, debt will decrease, and financial goals will be in sight.
For more on personal finance topics
If you have more questions about personal finance topics, visit the Learning Center on TD Bank's website. You can find more TD Bank services at TD.com.
We hope you found this helpful. This article is for informational purposes only and is based on information available as of December 2024 and is subject to change. This content is not intended to be used or acted upon with respect to any client's specific circumstances. For specific advice about your unique circumstances, consider talking with your qualified professionals.