Millions of people carry student loan debt with monthly payments and total outstanding balances ranging significantly from one borrower to the next.
Saving for a home purchase, investing for long-term goals like retirement, or simply building an emergency fund are all common financial goals. Trying to balance student loan repayment and these objectives can be a challenge when you aren’t sure what to prioritize.
The first step toward understanding what you should be saving or investing compared to how much you are expediting your student loan payments is your budget. Understand what you can afford to put toward each of your goals, debt repayment included, before making a decision one way or another.
How to Use this Calculator
The pay off student loans or invest calculator below can offer some guidance on which to prioritize when it comes to investing and paying off debt based on your specific financial circumstances.
First, input your details surrounding current student loan balances, the interest rate on those loans, and the remaining repayment term you have.
Next, input your current retirement savings balance, the annual rate of return you expect to generate, and how many years are left for contributing to the account. You may also input additional monthly contributions based on your budget, either allocated toward paying off your student loan debt faster or investing extra money into your retirement savings.
Once these details are input into the calculator, you can see the results of your selected strategy. Your monthly student loan payment changes based on the options you selected, showing savings and the potential interest reduction. It can also show a reduction in years or total repayment according to the selections you make.
If you add extra funds to your retirement savings, you can easily see the additional amount you would earn on your investment, and the balance of your retirement account if you continue that strategy. This information helps you decide which account to focus on, based on your needs, wants, and financial priorities.
Deciding Whether to Pay Off Student Loans or Invest
Always Pay the Minimum
When you are making a decision about adding monthly contributions to student loan debt balances or retirement savings or other investments, it is crucial to know what you can and cannot do.
Always account for the minimum payments you need to make toward your student loans before diverting money elsewhere. This will ensure you are staying on track for repayment, even if you don’t add extra funds toward your debt each month. Taking this small step also allows you to know how much extra you may have on a monthly basis before you decide how to put it to best use.
Build an Emergency Fund
In addition to understanding and meeting your minimum monthly payment requirements, you have to consider your need for an emergency fund.
Building up savings is an essential part of any financial plan. It allows you to cover financial emergencies, like medical bills, car repairs, or other large, unexpected expenses, without having to run to debt.
If you feel like you have extra cash flow each month but no emergency savings exists, focus your attention there before moving funds to investments or extra payments on loans.
One general rule of thumb to follow is having no less than three months of expenses set aside in an easy-to-access savings account. More conservative savers may strive for six to nine months’ worth of savings to ensure they have enough in the event of a major financial emergency.
Early Debt Repayment Versus Investing
Another consideration when thinking about whether to pay down student loan debt versus investing is the type of debt you have.
Borrowers who have federal loans with a relatively low interest rate may be better served by continuing monthly payments as planned and investing in a retirement savings account that generates more of a return. However, those who have high-interest private student loans may want to consider paying off those balances to reduce the total amount of interest.
The same can be said for other types of debt, including credit cards, auto loans, and home loans. The guidance here is to know what your student loan interest rate is, first. If it is high, for instance, in the double digits, working toward paying off the balance makes more financial sense in the long run than investing.
Think of it this way – if you cannot generate an investment return that is higher than the interest you are paying on your debt, focus on the debt first.
The Emotional Element
Having extra money each month can feel like you’ve won the lottery of personal finance, especially when you have debt you want or need to pay off or investments you want to make.
However, you must consider the emotional element of taking either approach before doing so. Some people experience a high level of anxiety when they have outstanding debt, regardless of what the interest rate or minimum monthly payment may be.
Others want to the thrill of investing in something that will provide a greater return on investment over the long-term than regular savings. Each individual is different in their priorities based on their emotional connection to their money.
Before making a decision to pay down student loans early or invest, think about what you want from a financial perspective over the next few years. If having a zero balance on your student loans is a burning desire, follow that path with the extra money you have each month.
If investing for the long-term for retirement or other financial goals is your priority, focus your energy there. The pay off student loan vs. invest calculator above can help you see the numbers clearly so you can determine how much you may save or earn, but ultimately, the decision should be based on your unique situation.
Author: Melissa Horton
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