My wife’s 401(K) statement came in today and boy is it sweet! In the past three years at her job, she has managed to garnish a hefty amount. Meanwhile, my retirement account has also boomed and I have been working in my school district for nearly a year.
It is such an awesome feeling to finally be building wealth instead of handing it over to someone else! Compound interest really is a miracle. So as I sit here I begin to ponder this question: should you invest while working your way out of debt?
If you are working yourself out of debt then perhaps you have heard what many in the investing world say. Pause all your investing until you kill your debt. Others will advise that investing and harvesting the average return on investments (roughly 7-8%) is a better decision than becoming completely debt free.
Although I love investing I do believe you need to be debt free before making any investments. Your debt free journey is more than just numbers. It will allow you to practice patience and keep everything organized.
The idea behind this is that you wouldn’t go borrow money so you could invest it. The same thought is used here — you wouldn’t borrow the amount of your debt and invest it and try to make money off of it.
What I want to do is share with you how we worked our investments and our debts.
Evaluate the Situation
Compared to many other people, especially all the wonderful bloggers I have read about, our debt was peanuts. It was still a large amount at over $34,000 which included a car loan and my student loans. Being a Dave Ramsey enthusiast I know that he advises to stop all investments and focus on debt.
I think this is really good advice if you are in debt and have not started investing at all. However, if you began your debt free journey after you opened a 401(k) with your employer I feel it is okay to keep putting money away for retirement.
That was the situation for us. Before we began our debt free journey Taylor had already set up her 401(k). Once I began teaching, my state (Texas) and the district called for mandatory participation in their retirement system; so even if we wanted to pit we couldn’t.
Crunch Some Numbers
In reality, we were putting away only $50 a month through the 401(k). So our debt wasn’t a $600 problem, it was a $34,000 annoyance. Yes, we could have halted the 401(k) and use those $50 a month but we chose to budget better and put other money towards our debt instead.
One of the most important things you can do is a little bit of math. But my guess is the money put away in retirement with your employer is not your main problem. If you decide to halt 401(k) investments make sure you have the discipline to restart it when you finally get out of debt.
The worst thing you can do is rob yourself of the money you could be gaining. Take advantage of your employer’s full match if they offer one. Most employers allow you to make 401(k) or retirement changes every quarter, or every 3 months of the year.
The process is as easy as checking a few boxes and changing a few percentage numbers. Make sure you talk to your human resources department since they are often the ones in charge of this type of information.
Max it Out
Once completely out of debt, we decided to max out our investments. This means that now $105 goes towards our 401k. With Taylor’s 401k and my pension (I’m a teacher) that brings our total to about 12% of our gross income towards retirement.
The goal is to open a Roth IRA and allocate the remainder 3% of our income towards it. This brings up another question. Should you build your 3-6 month emergency account before investing?
I don’t think these have to be independent of each other. They can easily be done simultaneously if your budget is right on track. In addition, we would hate to miss out on the interest built in the mean time. I don’t think you would be missing out on opportunity cost because either way, you’re building wealth.
Emergency Fund vs. Investing
The only difference is that one of those accounts is building more interest than the other, but both are making you richer and safer. If you budget correctly you can make these two work for you. Click Here to find out how we do our budget.
Another thing to consider is the level of your emergency fund. This depends on the type of job you have. Since we both have “safe” jobs we decided to make 3 months of expenses our emergency fund. We do plan to increase that when we have children and hopefully have a whole year worth of savings as well.
The main thing here is to make sure that you have multiple funds. Your investments cannot be your emergency fund. Otherwise, you will miss out on the gains if you keep withdrawing from these accounts. An emergency fund has to be readily accessible without any hassle.
A simple checking or savings account can be a great way to stash away emergency money. The interest gained on those accounts will be minimal (1-3%) but you know that this is not meant to be an investment.
You are in control of your money! The number one tool against your debt is you, but before you go on trying to tackle 5 different things at once, make sure you become really good at doing one thing. We began by tackling our debt and blinders were needed in order to stay intense!
Once we were out of debt we realized that some things are easier to juggle. Having a safety net and a wealth building tool ll help you be a better and more confident person.
Spanish Word of the Day: Inversiones (in-bear-see-0n-is) = Investments