If you find yourself with a little extra cash, where will it help you the most? These 5 questions can help you make the right decision. If you’re lucky enough to have some “extra” money in the form of a recent raise, unexpected gift or freelance earnings, you might be wondering how to spend it. Should you put it toward paying off debt, save it or splurge?
The savings-versus-debt
debate is a common one, so let’s take a closer look at which option
makes the most sense. Here’s a five-step guide to making the smartest
money moves:
• Do you already have an emergency savings account? We
all need an emergency fund, even if we still have debt to pay off.
That’s because emergencies can happen at any time. At a time when credit
is tight, we can’t necessarily count on loans to be there when we need
them, so we need a stash of cash for these types of emergencies.
Even if money is tight,
putting a portion of your paycheck aside for a rainy day should be a top
priority, even more important than paying off debt.
•How much is your debt costing you?
Many people don’t make this
simple calculation, but it shows just how costly debt is. To do the math
for your own, make a list of all your loans - auto loans, mortgage, and
anything else you owe on. Next to each amount, write down the interest
rate. Multiply the two numbers -- that’s how much each loan is costing
you per year. Keep that number in mind as we move on to the next step.
• How much would your savings earn?
If you do save this cash
infusion, where would you put it? In a bank account that’s earning a
certain return? Or into a money market fund, which might pay you more?
Pull out your notepad again and write down the total amount of cash in
question, then multiply it by the rate of return you could get on the
money. Now, take a moment to compare your findings from steps two and
three. Would paying off a chunk of your debt save you more money than
you could earn by saving the cash? If so, then you’re better off getting
rid of the debt. That’s a valuable piece of information that will help
you make the final decision.
4: What are your expected
earnings in the near future? If you expect to receive an additional
windfall in the near future, in the form of a freelance check, or any
other income boost, you have a little more flexibility. If you’ll have
more money to work with soon, perhaps you can pay off debt as well as
save.
5: What are your financial
goals? If you have big plans that require a lot of cash, such as
starting a small business, buying a house or any other, you probably
want to pad your savings account so it contains more than just an
emergency fund. Of course, paying off debt can also be helpful, because
then you can embark on these new financial adventures without the added
weight of old loans. But you still need cash to make those big goals
happen.
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