This post was inspired by one of Debt Ninja‘s recent posts (on his awesomely named blog, Punch Debt in the Face). He wrote about how he’d rather have some debt and more in savings than no debt and less savings. Basically, he wasn’t comfortable using his savings to pay off his debts and join the magical realm of the debt-free. Later, when Consumerist ran his post, there was quite a few nasty remarks about what he SHOULD be doing.
I’ve been struggling with this situation for a while: accelerate my debt payments, using money in savings, thereby increasing my overall net worth (because my debts are at higher interest rates than what I am getting from savings accounts), or just keep building up savings while slowly paying off debts. Mathematically speaking, I should be paying off my debts. But in this economy, I’d rather have more savings, with manageable debt payments, than less savings and hoping nothing bad happens. I’m a worrier. That’s the problem.
Also, my debt interest rates are pretty darn low. My student loans are at 3.25-3.5% APR, and my car loan is at 4.49%. If I ended up paying all that off, but then fell on hard times, I really doubt I could get a personal loan or credit card with rates that low. I also hate the idea of carrying a balance, or adding new loans (with the exception of a mortgage). Paying off everything (or most of my debt, since my debt load is more than my liquid assets) would mean that I’d probably pay more in the long run. It’s that “penny wise, pound foolish” idea. Yes, I’d be cutting expenses even more (though as it is, I’m NOT a spender), but I’d rather have money in the bank than be completely debt free.
Don’t worry, as of now, I’m working towards eliminating my debt. It’s a long and painful process. But I also worry that I may be doing other things wrong. Balancing all these financial priorities can get me a bit stressed. Besides looking at the short-term (the savings vs. student/car loans), I know that I’ve got to save for retirement. I max out my Roth IRA each year, and I contribute to my company’s 401(k) up to the 4% match, but I know I could be diverting more money to my retirement funds. I could be contributing up to the max, $16,500. But that’s a lot. I wouldn’t have to max it out, but just start contributing more. I checked this 401(k) Savings Calculator, and, even assuming no increase in salary, my retirement account total (at retirement age of 65) increases by more than $100k for every additional percentage point. I’m still early in the game, so compounding is really in my favor on this one.
So am I changing my 401(k) elections? Not yet. Why? I’m going to wait until my emergency fund hits its magical 2-years of expenses point. Yes, that’s excessive. But once it’s there, I promise to up my 401(k) contribution to 5%. I’ve decided that. You can hold me to it. And perhaps we can set another milestone for when I increase my 401(k) contributions to 6, 7, 8% etc. (I welcome your ideas!) And in the meantime, I’ll be paying off my debts. And saving towards other goals. And you can tell me that I should be paying off debts instead of having a 2-year emergency fund. If you can provide a valid enough argument, you may convince me to change my ways. But until then, I’m going to continue doing the “wrong” thing.