How I Will Be Rich

This is a question that many people ask. Should I take the money from my bank account and pay off my debt with it or take it and save it in my savings account earning 4-5%? My answer to this question is that it depends on the interest rate of your debt. If you carry a balance on a credit card that is getting an interest rate of 17%, you are much better off paying the balance of your credit card than you are investing the savings. It is basically like getting 17% interest on your money guaranteed. On the other hand, if you have an ultra-low interest rate of something like 3%, you are probably better off paying down the balance monthly and earning interest on your savings.

Let’s look at some numbers to get a little more in depth:

I have $10,000 in credit card debt. My credit card has an interest rate of 16%. I have $10,000 in the bank right now. Is it better to take my $10,000 and completely pay of my credit card or take that $10,000 and invest it?

If I take the $10,000 and pay off my debt, I will save myself $10,101.57 in interest payments over a ten year period.

If I take the $10,000 and put it in a savings account that earns 5% (My current savings account) and don’t touch it for ten years, I will gain $6,288.95 over that 10 years.

Clearly, it is better to pay off my credit card. I would have netted a loss of $3,812.62 over that ten year period.

Let’s start over with a 3% Interest Loan:

I have $10,000 in student loan debt. My loan has an interest rate of 3%. I have $10,000 in the bank right now. Is it better to take my $10,000 and completely pay of my student loan or take that $10,000 and invest it?

If I take the $10,000 and pay off my debt, I will save myself $1,587.29 in interest payments over a ten year period.

If I take the $10,000 and put it in that savings account that earns 5% and don’t touch it for ten years, I will gain $6,288.95 over that 10 years.

In this case, I come out ahead after 10 years by an amount of $4,701.66 by slowly paying down my student loan but investing that $10,000 in the beginning.

I really want to touch on this subject a lot more. It’s actually something that I’m just starting to learn a lot about myself. I really do hold some debt between my truck payment and my credit cards. I’m still investigating my best course of action to get them paid off and to invest my money. There are a lot more details that go in to the analysis of whether investing or paying off debt is the better solution. I’m using all these complex calculators that I’m finding on various sites and really trying to understand what they all mean. I promise I will follow up with further analysis soon. One of the great things about this blog is that it is really forcing me to learn this stuff.

Feel free to comment and/or point out flaws in my (basic) analysis.

-M

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