Paying down debt can be one of the most beneficial financial moves that you can make. At the end of the day, there is really no bad part of paying down debt. However, some people will argue that paying down your debt is actually bad for your financial future. While I will pretty much always err on the side of paying down debt fast, there can be some potential drawbacks to paying down your debt faster than you are required to. Let me explain.
Pros of Paying Down Debt Fast
No More Payment
The biggest positive of paying down debt fast is pretty simple. When you pay off a debt, you no longer have to make that payment. You get to take that money and apply it toward another debt, savings, or yoloing.
If you simply pay down your debt with the prescribed payment series that you have been given by the bank you will also get to this point. But if you pay down debt fast, then you will be able to get to this point much faster.
No More Interest Charge
The next positive is that you don’t get charged interest for that debt anymore. You can take that money that you were paying in interest and apply it to whatever else that you want.
Just because you pay down a debt faster than you are required to, doesn’t mean that you pay the same amount of interest either. When you pay down a debt faster than you are required to, you will pay a lot less interest over time. Which means more money in your pocket!
Less Financial Stress
One of the biggest reasons that couples fight is because of money. In fact, you don’t have to be married to understand the stresses of money. But when you pay down your debt faster than you are required to, you reduce that stress because there is a smaller cloud of financial anxiety hanging above your head.
Improves Your Personal Balance Sheet
When you pay down debt fast, you will improve your personal balance sheet as well.
That might sound like financial mumbo-jumbo, but it is a really important concept.
On one side of a balance sheet you have your assets. Assets are the things that you own. This is your house, retirement accounts, savings, equity in vehicles, collectibles, land, etc.
On the other side of the balance sheet you have your liabilities. These are the things that you owe. The amount owed on your car, the debt on your house, credit cards, lines of credit, student loans, etc.
If you subtract liabilities from your assets you get your net worth.
Assets – Liabilities = Net Worth
When you pay down your liabilities (and/or increase your assets), your net worth goes up. This is a good thing.
When you pay down debts faster than you are required to, you will increase your net worth at an even faster rate.
Cons of Paying Down Debt Fast
Some people will argue these things, but if you are paying down debt fast, there are some considerations that you need to make.
It Can Stretch Your Budget
The first potential con of paying down debt fast is that if you are too aggressive, you can overextend yourself and be short on cash.
I’ve done it myself. I have paid down credit cards aggressively before, only to find myself with a nearly overdrawn bank account before payday. Then I had to use the credit cards again just to make ends meet.
Just make sure that you are still keeping enough cash to pay all of your other bills when you are paying down debt aggressively.
It Can Affect Your Credit Score
When you pay down debt fast, it can help your credit score or hurt it. It depends on the situation.
For example, if your credit card utilization rate is 95% and you pay down your credit cards fast that will help your credit score.
But on the other hand, if the only credit accounts you have are student loans, and you pay them all off fast and then don’t have any other credit accounts, your credit score will probably go down.
There are a number of factors to consider about your credit when paying down debt fast.
But at the end of the day, in my opinion, it is still a good idea to pay down your debt fast. Even if your credit is affected negatively.
Maybe You Should Invest Instead
This is the crux of the argument between people who say that you should pay down debt fast and those who say you should not.
The people who say that you should not pay down your debt fast and invest the money that you would have otherwise used generally believe that you will make more money in the market than by paying down debt.
For example, one of these people would say that you should make the minimum payment on a 7% interest loan and invest anything else you can in the market because you will likely earn 10% or so.
And there is merit to this argument. But I don’t subscribe to it though.
There is a time and place for this line of thinking. For example, if you have a 3% mortgage, I would not recommend (in most cases) paying that off aggressively and forgoing investing.
But it depends on the person. Someone who is 62 and only 3-4 years from retirement might want to seriously consider paying off their mortgage early regardless of the interest rate.
But someone who is 25 with a 3% mortgage should simply make their mortgage payment and invest anything extra.
As a general rule, if you are in your 20s, aggressively pay down any debt that is more than 7% interest, pay the minimums on anything other debt, and invest the difference.
If you are in your 30s, aggressively pay down any debt that is more than 6% interest, pay the minimums on everything else, and invest the difference.
If you are in your 40s, aggressively pay down any debt that is more than 5% interest, pay the minimums on everything else, and invest the difference.
And once you have hit your 50s, you should do everything you can to get out of debt completely.
Final Thoughts
Look. I understand this. I have a degree in finance and an MBA. I understand the math, the amortization tables, opportunity cost, betas, alphas, as well as dozens of other financial topics.
But there are a lot of factors that go into whether someone should pay down debt aggressively or not.
You have to consider:
- Age
- Risk tolerance
- Debt load
- Investment portfolio
- Health
- Family situation
- Credit score
- Etc.
But at the end of the day, IMO, you can’t go wrong with paying down debt aggressively. Yeah, paying down a 3% mortgage in your 30s is not the most efficient move financially. But the discipline that that takes as well as the cash flow that you would have afterwards are great attributes to have.
And even if that is not the most efficient way to build wealth, there is no “one” way to get there.
🙂
You can do this!
I am here for you!
Until next time!
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