Pay Down My Debt or Save Money: What to Consider?

Should I save or pay off debt? It’s a tough financial choice. Prioritizing debt repayment can help you pay off what you owe faster, eventually freeing up more money that you can save. It could also cut down on what you pay in interest charges. On the other hand, delaying savings could mean missing out on the power of compounding interest.

Whether it makes sense to pay off debt or save depends largely on the specifics of your financial situation, your needs, and your goals. The right decision might actually be to try to do both.

Here, you’ll learn how to make the smart decision, including:

•   The pros of paying down debt first

•   How to start paying down debt

•   The advantages of saving money

•   How to start saving money

•   How to pay down debt and save money at the same time

What Are the Benefits of Paying Down My Debt?

Debt can wear you down mentally, emotionally, and financially. Collectively, Americans owed $15.84 trillion in household debt as of the first quarter of 2022, according to the Federal Reserve Bank of New York’s Center for Microeconomic Data. Whether you owe a credit card balance, student loans, personal loans, or a mortgage, here are some of the main advantages of choosing to pay off debt first:

•   Paying off debt could save you money on interest charges, finance charges, and fees.

•   As you reduce your credit utilization ratio (how much of your total credit limit you are tapping into), your credit scores might improve.

•   Reducing debt can also reduce your mental or emotional burden if your financial obligations are a source of stress.

•   Once your debt is gone, you can redirect those funds in your budget to saving or other financial goals.

Eliminating debt also means that you can lower your baseline cost of living. So instead of needing $5,000 a month to cover your expenses, you might be able to trim that to $4,000 instead, provided you can pay off a $1,000 monthly debt payment. Reducing monthly expenses can make it easier to get through a financial crisis or emergency should one come along.

When Might I Make Paying Down Debt a Priority?

If you’re debating whether to pay off debt or save, it’s helpful to think about your bigger financial picture and goals. For example, you might put debt repayment ahead of saving if you:

•   Have been paying debts for a while and are tired of feeling like you’re not making any progress.

•   Are able to qualify for a low APR personal loan or credit-card balance transfer that would allow you to pay off the debt faster.

•   Mainly owe unsecured “bad” debts, such as credit cards or payday loans that are costing you significant money in interest.

•   Are committed to sticking to your debt repayment strategy in order to clear your balances as quickly as possible.

That last point might be the most important. If you’re not all-in with your debt payoff plan, then you might not get much in return for your efforts.

How Can I Start Paying Down My Debt?

If you’re ready to pay down debt, the first step is knowing what you owe and to whom. You can start by making a list of your debts, including the creditor’s name, account balance, APR or interest rate, and monthly minimum payment, and how long it’s projected to take to pay down the debt.

Once you know what you owe, you can formulate a plan for paying it off. There are different strategies to become debt free that you can put to work.

Some of the most popular options include:

•   Debt snowball. The debt snowball method involves ranking debts from lowest balance to highest and paying them off in that order. You pay as much as you can toward the smallest debt, while making minimum payments to everything else. Once that debt is paid off, you roll its payment over to the next debt on the list, continuing the process until all debts are gone. Recommended: How the Debt Snowball Payoff Method Works

•   Debt avalanche. The debt avalanche (or highest interest rate) method ranks debts from highest APR to lowest. You’d then pay as much as you can toward your most expensive debt (the one with the highest interest rate), while making minimum payments to everything else. Once the first debt is paid off, you’d roll its payment over to the next debt on the list, continuing this process until all debts are gone. Recommended: How the Debt Avalanche Payoff Method Works

•   Credit card balance transfer. Transferring balances to a credit card with a low or 0% APR can help you to save money on interest charges. Typically, these offers involve a window of no- or low-interest, after which point, you pay a typical variable APR. The goal is to catch up financially during that time period, or to whittle your debt down significantly since no interest is accruing. The most important thing to keep in mind is how long you have to pay off the balance transfer at the promotional rate before the higher APR kicks in.

•   Debt consolidation. Debt consolidation means taking out a personal loan, home equity loan, or home equity line of credit (HELOC) to pay off other debts. You’d then make one payment toward the loan going forward. Whether this option saves you money can depend on the loan’s APR vs. the average APR you were paying across your other debts. If you can save a significant amount of money with a new rate versus your current rate, it may be worth the effort.

If you’re struggling to find the right debt repayment option, you might consider meeting with a nonprofit credit counselor or financial advisor. Guidance on financial planning for debt reduction can be very helpful, and organizations like the National Foundation for Credit Counseling (NFCC ) can connect you with advisors.

What Are the Benefits of Saving Money?

It pays to look at the other side of the issue when you are wondering, Is it better to save or pay off debt? Understanding the benefits of saving can help you to decide. Here are some of the main advantages of prioritizing saving:

•   The sooner you begin saving, the longer you have to grow your money through the power of compounding interest.

•   Having money in emergency savings can give you peace of mind if an unexpected expense comes along.

•   Saving and investing in a tax-advantaged retirement plan can help you to build wealth for the long-term.

•   You can save money for different goals at a pace that works for your budget.

Saving is crucial if you’d like to avoid racking up debt in an emergency. If your car breaks down or your dog needs surgery, for instance, you can use your emergency fund to pay those expenses rather than having to rely on a high-interest credit card.

When to Consider Saving Money Over Paying Down Debt

The decision to save vs. payoff debt also depends largely on your goals and what your financial situation looks like. You might prefer to save first and pay off debt second if you:

•   Mainly owe “good” debts with low interest rates and don’t feel unduly burdened by them.

•   Would like to build up an emergency fund before tackling your debt payoff plan.

•   Could earn a higher interest rate on savings compared to the rate you’re paying on your debts.

•   Are able to get “free” money by investing in an employer-sponsored retirement plan.

It’s important to note that there’s a difference between savings vs. investing. When you save money, you’re earmarking it for some future expense which might be planned (say, a down payment on a house) or unplanned (in the case of an emergency fund). You might put your money in a savings account, money market account, or certificate of deposit (CD) account where it can safely earn interest.

When you invest money, you’re putting it into the market. So you might buy stocks, mutual funds, or other investments. Investing money has the potential to deliver higher returns than saving it. But there’s a greater risk of losing money.

Potential Strategies to Start Saving Money

Making saving a regular habit can take time and effort. You may have to bypass little splurges (takeout food, for instance) as well as larger ones (joining pals on a vacation to Paris). But finding easy ways to save money can help you get into a routine of setting aside money. Here are a few ways you can do just that:

•   Schedule automatic transfers. One of the simplest ways to save money is to transfer funds from checking to savings every payday. You can pick a set dollar amount to transfer. Then when you get paid, you’ll know that money is automatically going to savings. It won’t be sitting in your checking account, tempting you to spend it.

•   Save at work. If you have a 401(k) or similar plan at work, that’s a built-in opportunity to save. You can defer part of your paychecks into the plan automatically, and your employer may chip in matching contributions, which is free money for you. If you get a raise each year, you can adjust your contribution rate by that same amount to funnel more money into retirement savings.

•   Save “found” money. Found money is money that you weren’t planning on receiving. So that can include things like tax refunds, rebates, cash gifts you receive for birthdays or holidays, and other windfalls. Found money can give your savings a boost with minimal effort. Even if you don’t set aside the whole amount you receive, do try to stash part of it in savings.

•   Use apps to save. Apps can make saving money easy. There are round-it-up apps that push purchases up to the nearest whole dollars and put the difference into savings. Or there are apps that pay you a percentage cash back on things like gas, groceries, and shopping. That’s money you can add to your savings pile.

If you’re struggling to find motivation to save money, try setting one or two small financial goals. For example, give yourself a goal of saving $1,000 to start your emergency fund in the next 60 days. Challenging yourself this way can help you get fired up about saving. If you’re able to knock out some smaller goals fairly quickly, it can get you solidly on the path to save more.

Can I Pay Down Debt and Save Money at the Same Time?

Whether you can pay down debt and save money at the same time will depend largely on your budget and how much you can dedicate to either goal. If you don’t have a firm budget in place, making one can help you see at a glance how much money you have to pay down debt or save.

So, say you make your monthly budget, and you have $1,000 left over after all your regular expenses are paid. Your current debt payments total $500 per month.

In that case, you might decide to keep paying $500 each month toward the debt and put $500 in savings. That way, you’re working toward both goals equally. If you’d like to prioritize paying off debt vs. saving, then you might pay $750 per month to debt and cut the amount you save down to $250.

Saving and paying off debt at the same time might be ideal if you can find the right balance between them. Again, it all comes down to whether paying off debt or saving takes first priority on your list of financial goals.

Does Starting an Emergency Fund Make Sense?

An emergency fund is designed to help you pay for unplanned expenses or unanticipated events. For example, getting laid off from your job could be a financial emergency if you don’t have any other income to fall back on. Other examples of financial emergencies include unexpected appliance repairs, vehicle repairs, vet bills, or medical bills.

Sixty-four percent of U.S. adults say they’d be able to handle a $400 emergency in cash, according to the Federal Reserve. But that means roughly a third of Americans would have to turn to debt to manage an unexpected expense. That’s a lot of people without a financial back-up plan. It may be wise to prepare and put some funds away in case a rainy day strikes.

Starting an emergency fund makes sense if you don’t want to be left scrambling to pay for unanticipated expenses. Even a small emergency fund of $1,000 could be enough to help you weather most minor emergencies. Once you save that amount, you could then work on building a larger emergency fund.

Of course, you may not need an emergency fund if you have substantial savings, investments, or other assets to draw on in a crisis. For most people, however, this is not the norm, so an emergency fund can still be an important part of their financial plan.

Banking With SoFi

Saving money and paying off debt can both be central to improving your financial situation. Whether you prioritize one over the other or tackle them both at the same time, it’s important to understand how saving and becoming debt-free can help you to get ahead and build wealth.

If you’re ready to start saving, then it pays to keep your money in the right place. With SoFi, you can get a Checking and Savings account in one place for added convenience. With direct deposit you’ll also earn a competitive APY, which can help you grow your money faster. Plus, you won’t pay any fees.

FAQ

How much money should I save before paying down debt?

At a minimum, it can be a good idea to save $500 to $1,000 before paying down debt. That amount of money may be enough to get you through any small financial emergencies that might come your way as you focus on debt repayment.

Is it better to pay down debt or save money?

It may be better to pay down debt if you’re carrying debts with high interest rates or are simply tired of not seeing your balances go down. On the other hand, it may be better to save money first if your debts have low interest rates or you don’t owe that much overall.

What bills should I pay down first?

When paying debts or other bills, it’s always important to pay any past due accounts first. Late payments can hurt your credit score, so it’s helpful to get past due accounts current. From there, you can focus on paying down the highest-interest debts first if you’d like to save money on interest charges. Or you can pay down debts from lowest balance to highest, which could help you knock out some smaller debts fairly quickly.

Photo credit: iStock/malerapaso

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SoFi members with Qualifying Deposits can earn 4.60% APY on savings balances (including Vaults) and 0.50% APY on checking balances. Qualifying Deposits means one or more deposits that, in the aggregate, are equal to or greater than $5,000 to an account holder’s SoFi Checking and Savings account (“Qualifying Deposits”) during a 30-day Evaluation Period (as defined below). Qualifying Deposits only include those deposits from the following eligible sources: (i) ACH transfers, (ii) inbound wire transfers, (iii) peer-to-peer transfers (i.e., external transfers from PayPal, Venmo, etc. and internal peer-to-peer transfers from a SoFi account belonging to another account holder), (iv) check deposits, (v) instant funding to your SoFi Bank Debit Card, (vi) push payments to your SoFi Bank Debit Card, and (vii) cash deposits. Qualifying Deposits do not include: (i) transfers between an account holder’s Checking account, Savings account, and/or Vaults; (ii) interest payments; (iii) bonuses issued by SoFi Bank or its affiliates; or (iv) credits, reversals, and refunds from SoFi Bank, N.A. (“SoFi Bank”) or from a merchant.

SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.60% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.

SoFi Bank reserves the right to grant a grace period to account holders following a change in Direct Deposit activity or Qualifying Deposits activity before adjusting rates. If SoFi Bank grants you a grace period, the dates for such grace period will be reflected on the APY Details page of your account. If SoFi Bank determines that you did not have Direct Deposit activity or $5,000 in Qualifying Deposits during the current 30-day Evaluation Period and, if applicable, the grace period, then you will begin earning the rates earned by account holders without either Direct Deposit or Qualifying Deposits until you have Direct Deposit activity or $5,000 in Qualifying Deposits in a subsequent 30-Day Evaluation Period. For the avoidance of doubt, an account holder with both Direct Deposit activity and Qualifying Deposits will earn the rates earned by account holders with Direct Deposit.

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