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Updated October 28, 2023

Should I Pay Off Debt or Save for Retirement?

Should I Pay Off Debt or Save for Retirement?

Should I Pay Off Debt or Save for Retirement?

AJ Giannone, CFA

Bill Chen, CFA

Personal Finance

Many people struggle to pay off a mountain of debt from their past while saving for the future. The average American carries nearly $93,000 in debt, according to a 2021 Experian report that factored in student loans, car loans, mortgages, credits cards, and other debt considerations. So you’re not alone in asking, should I pay off debt or invest for retirement? 

Everyone has a unique debt and retirement situation, so the answer to whether you should pay of debt or invest will always be "it depends." Your specific retirement goals and debt aren't the same as your neighbors or the whacky finance blogger you read online. Their strategy may not be the right approach for you, and that's ok.

Pay off Debt Or Invest For Retirement Questions

Without a clear-cut answer that applies to everyone, here are some crucial questions that could help you look at your debt/retirement goals through a new lens. If you can answer these questions truthfully, you'll find a much better path to whether you should pay off debt or invest for retirement.

What Are Your Debt Interest Rates?

First, let's talk about how not all debt is the same. A critical distinction is the amount of interest each debt charges. Because debt interest compounds and adds over time, the interest rate becomes vital to your decision-making.

Many financial experts agree that any debt above an 8% interest rate is high. Typically these are credit cards, personal loans, and payday loans. So if you're holding any debt with an 8% or higher interest rate, those usually should be your priority to pay off first.

Also, as you soak up this information, try avoiding any future debt with an 8% interest rate or higher. Credit cards can be helpful, but only if paid off every month. While personal loans and payday loans have their place, their terrible interest rates are often more trouble than they're worth.

How Much Could Your Investments Earn?

The average return for the S&P 500, typically considered the benchmark standard for the stock market, has been 10% annually over the last century. If you put money into an index fund that followed the S&P 500, you could potentially receive 10% annually on your investment.

However, one of the most popular phrases in finance is "past returns do not guarantee future returns." So it's essential to understand that 10% interest is not guaranteed on investments.

When deciding to pay off debt or invest in retirement, it comes down to whether you believe you can make more by investing or save more from paying down debt. This is where identifying interest rates becomes helpful. Whichever interest rate is higher could be an option you put money towards.

Remember that every investment is a risk and one you must be comfortable with. Typically, if you put your money in an investment account, you should be comfortable not touching it for at least two years. If you feel you would need that money sooner, consider setting up an emergency fund to create a buffer for significant, unexpected expenses.

Do You Need Money Right Now?

A compelling reason to pay off your debt now is to free up money from your monthly budget.

Let's say Samantha pays $500 for student loans every month and makes a lump sum payment to pay off her last student loan. This removes her $500 monthly student loan bill, and that money is freed up to spend however she chooses. 

Some people use this freed money to pay down additional debt to create a snowball effect. They pay off one debt and then use that freed money to increase payments on the next debt. By increasing payments on each sequential debt, you can pay off each one faster, creating progressively larger payments like a snowball building as it rolls down a hill.

Do You Have An Employer 401(k) Match?

One of the most underutilized employer benefits people often forget is a company's 401(k) match.

A 401(k) is an employer-sponsored investment account designed for retirement savings that offer tax breaks on employee contributions. Also notable is that many employers offer a 401(k) match on contributions up to a certain percentage of your wages. If you are enrolled, this is extra money your employer gives to you on top of your regular paycheck.

Many new employees are hesitant about 401(k)s because they feel overwhelmed, hold a fear of investing, or don't want to reduce their paycheck taken from 401(k) contributions. However, if you're not investing in your 401(k) to at least the minimum of your employer match, you are leaving money on the table. This is one of the biggest mistakes most people make and the easiest to correct with a quick call to your HR team.

Even if you decide to focus on paying your debt off first, make sure you at least make the minimum 401(k) contribution to receive your full employer match. This extra free money from your employer will substantially improve your future retirement goals.

You Can Pay Off Debt And Invest For Retirement

While it's sometimes easier to think of an either-or situation when it comes to paying off debt or investing, the truth is you could do both.

  • You could focus on paying off your debt while starting employee contributions in your employer's 401(k) program. This way, you are investing for your retirement while focusing on a debt-free life.

  • To reach your investing goals, you could contribute to a 401(k) and a separate brokerage account while making slightly over the minimum payments on your debt. 

There are several ways to pay off debt and invest for retirement. The trick comes to how you balance the contributions to each.

All that matters is you are comfortable with your approach. No matter which way you go, you always have the opportunity to adjust your method as you grow. The lesson is small changes in your regular habits can make a world of difference toward your future, whether you're paying off debt or investing for retirement.

Here at Allio, we offer a unique blend of investment options tailored to your lifestyle and financial goals. Choose one of our fully managed portfolios for hassle-free investing, handled by our team of experts. Prefer more control? Our dynamic macro portfolio option puts the power in your hands. We’re not your typical finance firm. Gone are the days of exclusive, complicated investing. We're here to make your financial journey approachable, transparent, and most importantly yours. At Allio, we’re shaping the future of investing.

Whether you’re seeking an expert team to manage your money or looking to build your own portfolios with the best financial technology available, Allio can help. Head to the app store and download Allio today!


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