One thing we’ve been taught since we could understand the meaning of money is that debt is a really bad thing. Don’t color me wrong, I’m not a fan of debt either, but I wanted to clear up some misconceptions about it.
Often, because we hate debt so much, we’re inclined to use the majority of our money and efforts to eliminate it as quickly as possible, at the cost of other things (like investing). While I wholeheartedly applaud taking steps to secure your financial future and come up with successful goals, sometimes this isn’t the best move.
How do you decide if you should be paying off your debt versus investing?
Contrary to popular belief, not all debt is created equal. I like to call this “dirty debt” versus “clean debt”. While dirty debt should be zapped away as quickly as possible, clean debt can be paid off over a longer time period.
Dirty debt, on one hand, is the filthy high-interest rate debt we encounter from credit cards (and other similar loans). This debt has interest rates that can quickly snowball into huge payments and even bankruptcy. And, yes, this debt should be eliminated ASAP, even before investing, because it can destroy your financial future.
On the other hand, clean debt is debt that’s meant to be paid over a long time period, and doesn’t have high interest rates. Think mortgages and student loans. While you should never miss a payment with your debt, when it comes to completely paying off your debt versus investing, you may be better off investing.
While this debt still has interest rates, the opportunity cost of using your money to pay this off early often isn’t worth it. For example, when comparing paying off your debt versus investing, take a look at the stock market versus mortgage rates. While the stock market has historically averaged an average annual return of 10%, mortgages have much lower interest rates (they’re around 3% right now). While every investment is different, your money could be growing at a much bigger rate than you’d get in savings in this case!
First, give yourself a high-five for taking these steps to pay your future self. Then, take the time to analyze the potential payoffs of both money moves, and you can come up with a strategic financial road map to tackle your debt and grow your wealth.
Want to learn more about investing? Visit my firm LexION Capital’s website for more info!
Have any tips of your own for tackling debt wisely? I want to hear from you!