It can be tough trying to decide between paying off student loans or investing your extra cash. Unfortunately, there isn’t a one-size-fits-all answer to the question. It depends on your unique circumstances, and it involves a bit of math and psychology.
If you need help deciding which direction to go in, here are 5 questions you can ask yourself. Your answers will reveal the right choice for you.
Do You Have An Emergency Fund?
Make sure you have cash on hand before you send all your extra money to student loan payments or investments. The last thing you want to do is find yourself in a situation where you’re racking up credit card debt because you didn’t have enough money saved for an emergency. It’s recommended to have 3 to 6 months of expenses saved, but aim for an amount that gives you peace of mind.
What’s Your Interest Rate?
Compare your student loan interest rate to what you could be earning in the stock market. Do some math to figure out which option yields the highest return. For example, if your student loan rate is 4.5% and you could earn 8% in the stock market investing in mutual funds, you’ll earn 3.5% more money investing than you would if you paid off your loans. In this situation, investing the money would be the best decision.
A quick note: student loans are often low-interest debts. If you have high-interest debt, such as credit cards or personal loans, pay those off first (before you pay off student loans or invest). These debts have interest rates that are much higher than what you could ever earn in the stock market.
Are You Contributing To Retirement?
Regardless of whether you decide to pay off loans or invest, you should already be contributing to your retirement account. Delaying retirement contributions to pay off loans may seem like a good idea, but it’s not. Your money needs decades to grow for the power of compound interest to truly take effect.
Think holding off on contributions for a few years won’t make a difference? If you invested $100 into a Roth IRA that earns 8% interest and you retired at age 65, you’d have $189,000 MORE in retirement if you started saving at age 25 instead of age 35. (1) A few years makes all the difference.
How Do You Feel About Debt?
Some people don’t mind debt, while others feel like they’re shackled to it no matter how low the interest rate is. If you’re comfortable with debt, invest your extra cash if it makes mathematical sense. If the thought of not being debt-free keeps you up at night, pay off your student loans, even if you could earn more in the stock market.
Could You Do A Combination Of Both?
This doesn’t have to be an all-or-nothing decision. If being debt-free is one of your financial goals but you also want to invest as early as possible, do both. You won’t hit your milestones as quickly, but you’ll still be moving toward a brighter financial future.
If you have several student loans with a wide range of interest rates, look into consolidation and refinancing options. These options can reduce your monthly payments, which frees up more money for investing.
Your First Step
Deciding whether to pay off loans or invest your cash is not a simple decision to make. It depends on your current financial situation, your interest rates, and your debt tolerance. But the fact that you’re here, trying to figure out how to responsibly use your extra cash flow, is a huge step in the right direction. At HBA Wealth, we’d love to help you create a solid investment strategy that allows you to reach financial independence. Take your first step and contact us at (626) 529-8347 or email Ricky directly at [email protected].
About Haydel, Biel & Associates
Haydel, Biel & Associates is an independent financial advisory firm serving individuals and families near Pasadena, California. The firm was founded in 2004 by Chris Haydel and Ricky Biel with a desire to provide unbiased, client-centered, community-based financial advice. Together, they have built a practice that has grown into a family of caring, smart professionals committed to blending proven investment methodologies with creative financial technologies that make it easier than ever to accomplish your goals. They strive to keep things simple and fun to give their clients peace of mind and alleviate financial stress. HBA Wealth takes care of their clients’ needs first and foremost and goes the extra mile to make their clients’ finances grow. To meet and see how the HBA Wealth team may be able to help, contact them today at (626) 529-8347 or email Ricky directly at [email protected].