Which of your financial obligations should you meet first, loans, investing, credit cards? Learn where to best allocate your money.
Nick is 29, married, owns a home and has $100,000 in student loan debt at 7% interest. He maxes out his employer matched 401K. How should Nick prioritize his disposable income?
First, max out your 401K contribution, especially if your employer offers any matching funds. A tax-sheltered investment will lower your taxable income and so much the better if by adding to this, it puts you into a lower tax bracket. The savings of a lower bracket can be huge. And the matching money is literally free money.
Your debt is an emergency.Tweet This
The next rule applies to everyone. Get rid of debt. Even before investing. On average, your money will make 7% a year when invested. Even if your debt interest percentage is less, getting rid of the debt is the most important thing.
Buckle down hard for a year or two to get rid of any debt. Work a second job, stop going to dinner, whatever it takes. The only debt this rule does not apply to is mortgage debt. It’s a poor investment to throw your newly freed up money to extra mortgage payments, that money goes to investments.
If you needed cash ASAP, imagine having to wait to sell your house to get it. If that money is invested in something like Betterment, you can have cash on hand within a week.
The debt is paid, now what? Get a few thousand dollars in an emergency fund. Largely your investments will be your main emergency fund but it’s good to have a few thousand dollars that are instantly liquid. Now take the money you were putting toward the debt and put it toward your investments.
Follow this advice and when your mid-life crisis comes around, you’ll have plenty of cash for a red convertible.
Betterment: Automated investing.
Lending Club: A peer-to-peer lending company.
Money Chimp: tax brackets.