PPP002: Pay off Debt or Save for Retirement?

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Thanks to listener Erin for asking our first audio question for episode two of the Personal Profitability Podcast. She asks if she should pay off her student loans first before she starts saving for retirement.

Concepts Discussed

• Student Debt Payoff Celebration Post
• What Does Your Credit Score Mean?
• Getting Started With Your Employer 401(k)
• Automated Debt and Investment Plan
• Debt Snowball

Ask Eric Your Questions

Get your question answered right here on the Personal Profitability Podcast! Just drop me a line through the Ask Eric page and I will answer you on a future episode of the Personal Profitability Podcast.

The first five questions featured will win a free copy of The Happiness of Pursuit by Chris Guillebeau.

Full Transcription

Hello everyone and welcome to the second episode of the Personal Profitability Podcast.

Once a month we’re going to do something a little special, a little different, from the longer episodes – we’re going to have a reader question. And any reader who would like to ask a question is totally eligible, that includes you. And if you leave me a question, you can either email it in or even better, you can go to the Ask Eric page, you can find that under the contact form on the website. So if you go to NarrowBridge.net, go to contact, there is a little drop down and then you can go to the Ask Eric page there and leave me a message. So you can leave an audio message with your phone, with your built-in microphone on your laptop or any audio device you have, it’s totally great.  And you can leave me a question and I will answer it here.

We’re going to kick it off with a question from Narrow Bridge reader Erin and she asks about a question involving her student loan debt.

Hey Eric! My husband and I have quite a bit of student loan debt. My question to you is do you recommend trying to pay down the student loan debt or trying to start some investments? We can’t seem to decide or agree on whether the student loan debt is something that we’re inevitably going to have for years, so we should build up some investments in stocks or other areas or whether we should try to put in all our efforts into paying down our student loans. Thanks.”

Well that is a great question Erin and I have a great answer for you and your husband. So I have actually also been in that situation myself before. I just paid off my student loans, not all that long ago. I had about $40,000 in student loans when I graduated from my MBA program, which felt like quite a lot and I worked really, really hard and was super laser-focused like a Jedi. I was able to pay off that debt in 2 years and 5 days after graduating from college. I was actually kind of mad that if I had paid it one week earlier I could’ve had it under 2 years. So now every time I write about it or talk about it I have to say ‘oh it was 2 years and 5 days’, because of those stupid 5 days.

But nonetheless, I just wanted to say I’ve been there and I get how that student loan thing works. And I wrestled with the same question, while I was paying off my debt. Did I want to put all of my money and all of my resources right into my debt and not put any money into my retirement accounts? Did I want to do a little of each? Did I want to split it and invest in other places at the same time? I just couldn’t make up my mind and I actually wrote a little bit about it on the blog and asked for some feedback from people.

But what I decided and what I thought about was that you have to look at, you know, the big picture in the long run and you want to break it down and prioritize how your money is spent. There’s a concept that’s pretty popular called ‘paying yourself first’. ‘Paying yourself first’ means you want to put money into savings and you don’t want to just ignore that while you’re paying off your debt.

Be Consistent with Your Payments

So what I would recommend for anybody who’s trying to pay off student debt while trying to save for retirement at the same time: obviously you have to make your minimum payment every month. That’s not optional or it will have a major impact on your credit score and that’s no fun, no one wants to have bad credit or any fees or late fees. So obviously you have to pay the very minimum every month.

Now what I did, and what I think is a great strategy, is that most people don’t get paid once a month, they get paid every other week. So if you get paid every other week, what I would recommend doing is paying your student loans every other week as well.

I set up an auto pay right when my student loans started coming due – to do half of my payment every other week. You can’t do that necessarily with a mortgage. Most mortgage rules don’t allow you to do that unless you go through a special program and pay some fees. But with student loans you can make a payment whenever you want and it goes straight to the principal, as long as you’re making the minimum every month. So what you can do is set up, let’s say your payment is $200 a month and if your payday is every other Friday, set up on your pay day, have a $100 taken out, so half of that $200 a month.

The 401(k) and Employer Matching Program

And then once you’ve done that make sure the next thing you want to do, your next biggest priority, is taking advantage of any 401(k) matching from your employer. A lot of employers, if you work for any big company, will do something like, if you give 3% of your paycheck into a 401(k) they’ll match 100% of that 3%. So in that case, if you don’t take that 3% you are just giving up 3% of your pay. It’s free money from your employer, you’re just giving it up and not taking it. So make sure you are taking advantage of that.

You know another option, like what I have today, is if you put let’s say 6%, they’ll give 50% of up to 6%. So in that case, you want to put the full 6% so you’re getting that 3% match (50% of 6% is 3%). So you want to get that whole match. You don’t want to give up any free money.

Your Short Term and Long Term Goals

Now once you have done that, that’s where the big question starts and it’s really different for every person, but you want to focus on the big wins in the short term and, as I said, in the long term. So if you have a giant student loan balance, paying the minimum for 10 years is not going to be any fun. So you can put a little bit extra, if you’re doing a $100 every other week, maybe you want to do $150 every other week. What I ended up doing in the end, that helped me pay it off  so quickly, as I was paying the full amount twice a month, at which my loans were about $240 a month and at the point I was really digging in and I was putting about $250 every paycheck period.

And then when I got any bonus from work, which you know it’s the end of the year, it’s bonus season or a tax refund which will be coming up in a couple months, I put 100% of those lump sums into my debt, into my student loans, to get those paid off as quickly as possible, but I never let up on my 401(k) contributions, taking at least the minimum. Actually over time when I was a single guy, I was living in a pretty cheap apartment, so I had a lot of disposable income at that point in my life. I increased the percent that I was putting into my 401(k) up to 4%, then 5%. I actually also took advantage of a stock purchase plan where I can get company stock at a 15% discount if I had a fixed recurring investment. So I was buying company stock, it was 2% or 3% of my pay and I was putting in, by the end there, I think 7 or 8 percent of my salary into the 401(k) and I was still making those mega debt payments every month.

By the time I paid off my student loan, my car loan had been long gone. So I used what’s called a ‘debt snowball’, where I took what I had been putting into my car payment and rather than just keeping that and taking it like income, I put it right into my student loan payments because I was already used to living without that money. So I just kept building on and building on my student loan payment until I was paying, you know, quite a bit every pay period and still not missing out on the 401(k) opportunity.

And where I was able to, after I got comfortable putting in those big student loan payments, I put a little more into retirement and a little more until I was saving about 10% which, once I finished paying my student loan, I increased quite a bit. But while I was paying off the student loan I wasn’t going to go starve myself. And I understood that I’d have to make, shorter term, put a little less into the 401k but I wanted to be in the habit of doing that and I encourage you to do the same.

So to recap and summarize, at the very minimum, make sure you’re taking advantage of your employer’s 401(k) match or you are just giving away free money. Then put big lump payments, any big income or holiday gifts into that student debt, just chip away at it and chip away at it as much as you can. Whatever you’re comfortable with above that, you can keep putting away for retirement.

So that is my answer to you, Erin.

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For the first 5 questions that are taken on this podcast, I was giving away a copy of ‘The Happiness of Pursuit’ by Chris Guillebeau. He is one of my very favorite authors. He’s written some great things like the ‘Art of Nonconformity’ and I happened to get 5 copies of his new book ‘The Happiness of Pursuit’. I sent Erin off a copy of ‘The Happiness of Pursuit’ and the next 4 questions which get answered on the show, will each get a copy as well. You’ll be able to see a little bit more of a link to that in the show notes. ‘The Happiness of Pursuit’ by Chris Guillebeau – great book, by a great author.

And thank you Erin for asking your questions.

So I will talk to you all next time. Thank you.