Catch a Gideon

Pay off high interest debts before investing or saving

October 31st, 2006 by digerati

Today’s topic concerns those of you who have accumulated debt. Make sure you pay off your debt first before starting to invest any money.

First off, the exceptions:

• Long term, low interest loans. This generally includes school loans and mortgages.
• If the debt is at a lower rate of interest than you will get from investing. If you have a 3% interest accumulating on a debt and you can earn 5% interest by placing the money in the bank instead of paying down the debt, then by all means take the higher return.

Why you need to pay off debt first

Simple mathematics Watson…

If I have 30% interest accumulating on a credit card purcahse and I choose to invest the money I have in stocks (say an average of 7% annual return) then my average interest on that money is -23%.

Another example. The average household carries $8000 in credit card debt. At a typical rate of 18.6% interest, and them paying the minimum monthly balance of $160, it will take no less than 8 years and $7000 in interest charges to pay off the debt. That’s $15,000 dollars for $8,000 worth of goods or services for those of you who are counting. That’s about the worst return on investment I’ve seen (well except for the 30% interest cards…).

So before investing any money anywhere, even a savings account, pay off as much of your high interest debt that you can!

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