Should you use all your savings to pay off your debt?
Growing your savings into a healthy emergency fund that could see you through a few months without income is probably the best financial feeling in the world, except maybe being debt-free. But is it worth sacrificing the first to achieve the second? Should you give up your savings to get rid of your debt and start afresh with no debt?
The answer, of course, is that it depends.
“There is no single debt repayment plan,” said Michael Jan Baldicana, financial editor for Pyramid credit repair. “It depends on the person and their situation.
Find out: Here’s how much cash you need to hoard if a national emergency occurs
Save more: 9 bills you should never put on automatic payment
GOBankingRates asked the experts to help determine when people might be justified in plundering their savings accounts to tackle frustrating debt.
That’s what we learned.
It’s almost never a good idea to be left with nothing
As Jan Baldicana pointed out, the wisdom of tapping into savings to deal with debt changes on a case-by-case basis – most of the time. Virtually every expert who spoke with GOBankingRates agreed on one fundamental principle: with almost no exception, you must use up all of your savings to pay off a debt.
Better options are almost always available, and if a crisis strikes when your savings account is depleted, your only recourse will be to borrow even more money – and borrowing out of desperation only guarantees less favorable terms, higher interest rates and a brand – new mountain of unavoidable debt.
“As a general rule, it’s best to avoid using savings to pay down debt,” said Steven Walker, CEO of Spylix. “Because using savings to pay off debts could put you at risk of taking on more debt.”
SURVEY: Do you make a weekly meal plan or other regular family budget?
Don’t waste savings on good debt. Bad debt? Maybe
The first step in deciding whether to tap into your precious savings to reduce debt is to identify debt as toxic or healthy, bad or good.
“Good debt benefits us in the long run and earns us something,” said Jason Cordes of CocoLoan. “Student loans, for example, help students get a good degree, which leads to a good job placement.”
This type of debt – which also includes mortgages – usually comes with lower interest rates and lenders who are more willing to work with you if you run into trouble. In most cases, therefore, you should not dip into your savings to pay off good debts.
At the other end of the spectrum are bad debts, like the ones you owe when you use your credit card — and bad debts can ruin lives.
“In this case, your financial situation will determine whether or not you should use your savings to pay off your debt,” Cordes said. “If you have enough savings in your emergency fund, you can use your savings to pay off the loan, but you should avoid doing this if you don’t have enough for future uncertainties.”
When debt is dangerous, saving is fair game
There are bad debts and there are truly bad debts. The worst type of debt is comparable to the legal loan and must be dealt with immediately at almost any cost.
“While the general rule is to continue to grow your savings while paying down debt, the type of debt helps determine whether you need to touch your savings to pay them back or not,” said Nunzio Ross, a finance expert. personal who sued find Majesty Cafe.
Savings, after all, are what you rely on in an emergency – but if you’re crushed by triple-digit interest on a predatory short-term loan, you’re officially in an emergency.
“High-interest debts like payday loans and car title loans should take priority, and you need to put as much money into those debts to pay them off as soon as possible,” Ross said. “Low-interest loans, such as mortgages and federal student loans, still need to be paid regularly, but they’re not as urgent if you’re still building up your emergency fund or saving. The higher the interest rate, the sooner you want to finish paying them off. »
Almost every expert agreed that much of this debate comes down to how much debt you’re trying to erase versus how much money you’ve saved. If your savings account consists of a few hundred dollars that will only be able to cover the most modest car repairs, but you owe thousands or tens of thousands of dollars in debt, don’t waste what you have – that won’t even cost you to make a dent.
If the situation is reversed, however, and your savings account is full but you’re looking at pesky remnants of lingering debt that you could wipe out all at once, in most cases you should go for it.
While Walker agrees with the consensus view that every situation is different and there are no hard and fast rules, he offered a few scenarios where it’s almost never a good idea to steal your savings account to pay your debts:
- You don’t have a fully funded emergency account.
- You struggle to pay your bills every month.
- Your debt carries low interest rates.
- You haven’t started saving for a long-term goal.
More from GOBankingRates