As an investor, you are constantly trying to stay on top of your personal finances. Two of the biggest and most daunting goals you may face are paying off your debt and saving for retirement.
For young investors, retirement may seem to be a vague and far away goal, causing some to lower or stop retirement plan contributions altogether in order to have enough money to reduce their current debt. You may be asking yourself, “How can I possibly pay down my debt while saving for retirement?”
Of course, there is no one-size-fits-all answer regarding how to balance your debt repayment strategy with your retirement savings strategy. Everyone’s situation is different, but here are a few guidelines that can help with your financial questions:
- If your company offers a 401(k) plan with a matching contribution, then continue your retirement plan contributions as long as it’s financially possible. An employer match provides a return that is hard to beat, so avoid stopping your contributions to pay down your debt. Passing up your company match is basically saying no to free money. The benefits of compounding and dollar cost averaging both depend on long-term investing.
- Make sure you take time to evaluate your spending habits and tighten your budget accordingly. By structuring your budget, you can make sure you are contributing enough to take advantage of your company match while at least paying the minimum amount on all your debts to avoid late fees. If you have to reduce some monthly bills, such as internet or cable to have enough to pay off your debt, then find a way to do that before jeopardizing your financial future. Although having the best cable and internet package may provide you great entertainment, it’s important to value your long-term goals more than your immediate gratification. However, if you must reduce your 401(k) contributions to have enough cash flow to reduce your debt, decrease them by as little as possible.
- Most importantly – try to prevent additional debt in the future. Think twice before purchasing something that is not a necessity and review the financial consequence it may have on your expenses. Also, consider creating an emergency fund. The thought of putting aside more money may be unpleasant, but an emergency fund will help you from falling into debt again. You never know what the future might bring, so it’s always better to be financially prepared for the unknown.
- Use a 401(k) contribution calculator if you are concerned about your take-home pay after contributions. You may be surprised to find that your plan contribution does not affect your take-home pay as much as you would think. Remind yourself that you are making pre-tax contributions and the amount of taxes withheld will be reduced.
The best solution for someone struggling with debt and trying to save for retirement is finding a happy medium between the two. Although decreasing your take-home pay may not be an ideal situation while paying off your debt, you will regret not at least taking advantage of your company match. Your employer match is an immediate return on your investment. Start contributing today, if you haven’t already.
Scott Holsopple is the president and CEO of Smart401k, offering easy-to-use, cost effective 401(k) advice and solutions for the everyday investor. His advice has been featured on various news outlets, including FOX Business, USA Today and The Wall Street Journal.
While I would say that paying off debt should be a priority, you are right that someone should consider a 401k if there is a match. If not, I say forget the balance and pay off the debt first. That way you are guaranteed a decent return on your money. And it will free up your spending later once the debt is gone.
I have a good amount of debt I am trying to pay off as soon as possible. I also have 401K that my company is matching 50% up to 8% of my contribution. It’s a given that I contribute at minimum 8% to my 401K every year despite my goal of trying to pay off my debt asap. I just can’t throw away free money that my company gives every year to my 401K.