You have $10,000. Your credit card debt is at 18% APR. The stock market historically returns around 7-9% a year. What should you do?
Pay the debt. Every time. I don't care how good the market looks.
Here's why: paying off 18% debt is a guaranteed 18% return on your money. Investing gives you a maybe return. Maybe 10%. Maybe negative 20%. The debt is certain. The market is not.
I had a client — call him Victor — who had $25,000 in student loans at 5.5% and $15,000 in credit card debt at 22%. He'd inherited $15,000. He wanted to invest it. I told him to pay off the credit cards. He argued with me for an hour. Then he did it.
His credit score jumped from 650 to 710 within six months. That's because his credit utilization dropped from 80% to 0%. He then refinanced his student loans to 4.2% and started investing $200 a month. He's on track to have $50,000 saved in ten years.
Now, there's a nuance: if your debt is low-interest (under 5%), investing might make sense. A mortgage at 3.5% is cheaper than inflation. Paying that off early isn't always smart. But for credit cards, personal loans, and auto loans over 6-7%? Pay them first.
Also, don't forget the psychological benefit. Being debt-free feels better than any stock market gain. I've seen clients cry with relief after paying off high-interest debt. I've never seen anyone cry with joy over a 10% portfolio return. Well, maybe once.
Here's my order of operations:
- Step 1: Pay minimums on everything.
- Step 2: Build a $1,000 emergency fund.
- Step 3: Pay off all debt over 8% APR.
- Step 4: Save 3-6 months of expenses.
- Step 5: Invest the rest.
Victor followed this. He's now debt-free except his mortgage. He's investing 15% of his income. He's in a good place.
I will keep posting updates on this. Check back soon.
P.S. I'm not an investment advisor. I'm a debt guy. If you want stock tips, ask someone else. But if you want to know which loan to kill first, I'm your person.