Why I Tell People To Pay Off Debt Before Saving

Jason Demland

August 23, 2018

What young boy hasn’t used a magnifying glass to deify himself as a wrathful bringer-of-doom, pouring out his judgement on a colony of ants or whatever poor insect happened to be crawling on the driveway at the time? To become a proficient vessel of the ant-apocalypse one has to learn some skill with the magnifying glass. It doesn’t work if you continually move from place to place in a frenzy. No. You need to focus the sunbeam on one ant at a time. The same is true of starting any sort of fire with a magnifying glass. That pile of leaves won’t ignite if you keep moving the beam all over the place. You need to hold it still. You need to focus.

There are a lot of resources and studies that have shown the value of focusing on one thing at a time and have exposed the myth of multitasking.  This Harvard Business Review article is one. This same principal applies to personal finance. Often you’ll have a whole slew of financial goals for yourself and family: save for retirement, save for a down-payment on a house, get student loans paid off, replace that car, spend some money on fun trips, make sure the emergency fund is full, etc, etc. You run into problems if you try to do all of these things at once. For one, you’re likely to make little or no progress on all of those steps if you’re trying them all at the same time, get burnt out, and then give up. It makes more sense to do one thing at a time and really focus on it. That way you’ll actually do it.

You can break down financial planning goals into the same general categories for almost everyone. Fund an emergency fund, save for retirement, save for kids’ college, buy a house, get out of debt, and build wealth. Which are the most important? It depends on who you talk to really. “Pay yourself first” is a really good maxim. It’s true that unless you first take money out of your income to save and invest it’s likely that you won’t do it, but I disagree with this at least in certain situations. Yes, saving early and often is best. The power of compounding can be astoundingly powerful in wealth-building if you can add enough time. However, you need to factor in risk to your personal financial equation and most people don’t. Having an emergency fund helps keep you from getting into deep financial trouble and is your first line of defense. It’s the most important step. Do it first. Getting rid of all debt (except for your mortgage on your primary residence) is an incredibly important factor because it frees up your biggest wealth-building tool (your income) and takes away a whole bunch of risk you may not have even realized you had. What if you lose your job or ability to work for a period of time? Mastercard will still demand to be paid, Ford will still want their payment, and Sallie Mae won’t stop bothering you. 

Waiting until you’re debt free (except your house) to start saving and investing can be a tough pill to swallow for some people. It can seem like you’ll never get out of debt. However, with a lot of focus and proper debt snowball technique, most people can get out of debt in a quick 2 years. Once a severe amount of focus is applied to this step it can be over with and done with. Forever. There’s no need to become a prisoner to consumer debt ever again after establishing an adequate emergency fund and becoming debt free. Imagine life with no payments. It’s amazing isn’t it? What if you didn’t have a car payment ever again? What if you weren’t paying on student loans or credit cards? You could be looking at more than a thousand dollars freed up if you’re debt free.  Imagine how much you can invest and save at that point?

There are exceptions to this general rule and it depends on your individual situation of course, but this rule of thumb of getting out of debt before saving for retirement is a good plan. It’s part of a plan that requires focusing on one goal at a time and it works. So the next time you hear about someone who comes to me with money to invest and I told them to use it to pay off their student loans with it, don’t screw your face up, take a look at the bigger picture.