Ready to start investing, but worried about debt? Here’s how to invest even if you still have debt on the books.
When you look at your finances and see debt, it can feel a little overwhelming. In fact, it can feel like you need to abandon your other financial goals in order to get rid of all the debt.
But it may not be necessary to put a hold on your other financial objectives as you tackle your debt. Michael Kealy, AAMS, education coach at TD Ameritrade, has made it a point to talk about the importance of understanding the different types of debt young investors face and how they can approach paying it down while still working toward building wealth for the future.
Although some experts quibble with the idea of good debt versus bad debt—in a way, it never feels good to owe money—it’s important to take a step back and understand what that debt is getting you.
“Some debt amounts to an investment in yourself that might meaningfully and positively affect your future,” said Kealy. “This debt usually carries lower interest rates and might have some tax advantages.”
On the other hand, debt used to buy rapidly depreciating assets or debt that carries high interest can be problematic. Rather than using debt as a way to leverage into a better situation down the road, you’re just paying lots of interest. And that can detract from your ability to put money toward other uses or investments.
So rather than taking the standard “good debt/bad debt” view, think in terms of the utility and cost of debt.
Credit card debt (including for vacations)
Loans for technical training/job skills/certifications
Loans for vehicles and boats
Luxury goods (hot tubs, clothes, jewelry, etc.)
Other high-interest loans (payday loans, fast cash)
Kealy suggested starting with any costly high-interest debt when creating a debt paydown plan. In general, the debt that’s considered useful comes with relatively low interest rates, and in many cases, your interest payments can be deducted on your tax return. As a result, this debt is typically less costly overall, and you might be able to increase your wealth in the future by using such debt wisely today.
Here are some things to keep in mind as you work to get rid of costly debt.
With a solid plan in place to address your debt, it’s possible to move forward and consider your investing plan.
Kealy pointed out that it’s possible—and even sensible—to start investing even while carrying debt.
“A savings ethic can be self-motivating, and seeing the results of positive compounding can amplify the desire to reduce expenses,” he said. “You can feel like you can pay down your debt and save even further.”
As you put together your debt repayment plan, consider leaving some room for investment. A small amount invested early and regularly can make a huge difference later, especially when you consider compounding returns.
“Even a small amount invested sooner can make a difference later,” said Kealy. “Plus, as you get rid of your debt, you can increase the percentage of your income that goes toward investing and saving.”
At the very least, consider making contributions to your company retirement plan (if available). Those contributions’ potential growth is tax efficient—and if your company offers a match, that’s free money tossed in on your behalf. You might consider contributing a smaller amount while paying off costly debt, but once you retire those balances, it might make sense to increase your contribution to get the full match offered by your company. When you feel comfortable with your debt reduction, consider increasing your investments even more.
“Start to save and invest to maximize the time value of compounding,” Kealy recommended. “Get into good habits now, and the results can fuel the mental ambition to knock out debt faster and save even more.”
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