Depending on which expert you read, you might get a different answer. Each has it’s pros and cons…
- High Interest Debt, such as credit cards or payday loans, are terrible for your financial health. Paying them off and not accruing anymore is vitally important, and quickly. It’s the most sure and best investment you could make in yourself.
- The longer your investment horizon, the more compounding will turn a meager start into a sizable end result. Investing for 35 years instead of 25 yrs, given regular contributions the whole time, can nearly double the money over those last 10 years. Historically, the S&P 500 will return just shy of 10% so it’s less than your credit card interest rate, but not too shabby either.
- An emergency fund is necessary. Dave Ramsey says save $1,000 cash asap. Given inflation since his Baby Steps were first printed, many don’t feel comfortable until they have $5-10k or more.
So, which is the most important or which should you do first? All of the above is likely the right answer. Here is what we recommend:
- Start building that emergency fund NOW. You will sleep better at night and it doesn’t have to be more than $1k until all your high interest debt is gone. Once all your remaining debt has interest rates below 10%, or if you experience a job loss or a global pandemic w/ shutdowns cripple the economy for a few months, then bump that emergency fund up to 1-6 months of bare-bones expenses.
- Invest 5% of your paycheck, or more if required to get your full employer match. It’s a free 100% return and it starts building the right habits of automatic saving and investing. If you don’t have a match or even an employer plan, still contribute 5% to an IRA. It’s about building habits and early positive results at this point, not earth-shattering wealth. Automate wherever you can. We always enjoyed manually clicking transfer, but you will never save as much compared to automatic contributions. You will forget, or another bill will come up and you will promise yourself you’ll make up the savings next paycheck (but won’t).
- PAY OF HIGH INTEREST DEBT and STOP SPENDING!!! If you live in a First World Country today, you live in a time of massive convenience and consumerism even for the lower middle class. No matter what you’re income level, you are only hurting yourself (and your kids) by spending more than you make. STOP IT! I know it’s hard, having years where we made less than $25k total ourselves. But you have to live within your means. TV, cable/streaming services, fast internet, mid-to-high end phones, computers, and tablets, cars more than $5k, etc are all luxuries you cannot afford until you have at least a positive Net Worth. And even then, you should still practice delayed gratification.
- Increase your Emergency Fund to 4-6 months worth of core expenses (mortgage, food, etc) and your investments contributions to 15-20% after your 10%+ interest rate debt is gone.
- Start paying down your additional debt, perhaps excluding your mortgage. Given how ridiculously low mortgage rates are right now, it is hard to justify paying it down instead of investing the difference. In the last 30 years, the US Dollar has lost about half its purchasing power (relative to the cost of goods and services, not other currencies). 15 years into your mortgage, the “real” value of your loan could be a 25% less of what it was compared to your income and value of your home with inflation.
- Once you are debt free from everything but your mortgage, increase your savings rate to 25-50%+ if you really want to get ahead. But 20% of your income really should be the minimum that you save. There is no guarantee you will have a job until your late 60’s nor do you want to be dependent on a shrinking [due to inflation] fixed income from an underfunded Social Security.
