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Pay Off Debt or Save for the Future?

If you want to set a solid foundation for your financial future, it can feel like there’s so much to do. You’ve got to save for retirement, future purchases, emergencies, your kids’ college tuition—the list goes on. Oh, and if you have debt, you need to pay that off too. It can get overwhelming. What comes first? Should you pay off debt or save for the future? Or should you try to tackle it all at once?

We’ll answer that last question first: no. Let’s say you have to eat an elephant. How do you do it? One bite at a time. Money works the same way. If you try to go after everything at once, you’ll just spin your wheels without making any real progress. You’ve got to tackle your goals one at a time.

But where do you start?

Which Comes First? Pay Off Debt or Save for the Future?

So, should you pay off debt or save for the future? The truth is, the answer to this question depends on where you are in your money journey. Let’s take a look at the 7 Baby Steps (our tried and true, step-by-step plan to get out of debt and save real money) to make it a little clearer.

  1. Save $1,000 for your starter emergency fund.
  2. Pay off all debt (except the house) using the debt snowball.
  3. Save 3–6 months of expenses in a fully funded emergency fund.
  4. Invest 15% of your household income in retirement.
  5. Save for your children’s college fund.
  6. Pay off your home early.
  7. Build wealth and give.

How Do You Know Which Step You’re On?

So, how do you know where you are and where to start inside those steps? Ask yourself a few questions.

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Do you have $1,000 in savings? No? Start on Baby Step 1. Yes? Then move on to the next question.

Do you have debt? If you do, you’re on Baby Step 2. Even if you’ve got a ton in savings and are investing, you need to pause those other money goals and focus on paying off your debt first. If you don’t have debt, then you’re ready to start saving—first for your emergency fund and then for retirement.

Okay, it might sound crazy to stop your other money goals, but keep reading to see why as we walk through each step one at a time.

1: Save a starter emergency fund.

Life happens. We know this. But did you know 36% of Americans don’t have the cash to cover a $400 emergency?1 Having $1,000 in savings is your first financial step because it helps you build a buffer against any life happens moments. You need this stash of cash in the bank, ready to make those would-be emergencies a paid-in-full annoyance.

If you’ve never had more than a quarter in your savings account at a time, $1,000 might seem impossible. But by cutting back on your spending, selling stuff, and more, you can save up $1,000 in a month or less.

This $1,000 is just a starter emergency fund to protect your budget while you’re paying off debt. You’ll beef it up in step three.

2: Pay off debt.

Once you’ve got that starter emergency fund, it’s time for what we call Baby Step 2, which is paying off all your debt (except the house) using a method we call the debt snowball.

The debt snowball method is where you pay off debt in order of smallest to largest, gaining momentum as you knock out each remaining balance. When the smallest debt is paid in full, you roll the payment you were making on that debt into the next-smallest debt payment. Like a snowball rolling down a hill, except you’re the power behind that growing momentum.

Why aren’t you putting money into retirement while you’re paying off debt? Why aren’t you stashing cash into your savings account? Because doing everything at once slows your progress and leaves you unprepared when unexpected expenses arise.

Remember—it’s about momentum and focus. If you’re throwing your money into several goals at once, you aren’t gaining real, focused, intense momentum at any of them. You’re treading water. You aren’t swimming laps.

For example, let’s say you’ve got student loan debt. If you didn’t have that monthly payment, you’d be putting that money in your budget for your progress.

Let’s take this one step further with a little math.

First, we ran some numbers through our Student Loan Payoff Calculator.

  • The average American with student loan debt has a balance of $38,792 with an interest rate of 5.8%.2,3
  • On average, Americans take 20 years to pay off their student loans, but they can take up to 45.4 For our example, we’ll use 30 years.
  • So, if you took 30 years to pay off a $38,792 loan with 5.8% interest (which would end up as a $227 monthly payment), you’d hand over $43,526 in interest alone.

Then we ran some numbers through our Investment Calculator.

  • What if you paid off that student loan in two years instead of 30 and invested that $227 for 28 years?
  • With an average rate of return of 11%, you’d have $506,546 at retirement!
  • Does two years seem impossible? It isn’t! (Seriously.) Keep reading, and we’ll show you how to make it happen.

So, which would you prefer: getting $506,546 at retirement or paying $43,526 in interest? With the same money. In the same amount of time.

Listen. Your income is your greatest wealth-building tool. When any part of it is going toward paying off the past (aka debt), it can’t go toward the future (aka emergency savings, retirement, etc.). So, take back your income. All. Of. It. Ditch the payments—then you can make real progress for your future.

3: Save a fully funded emergency fund.

Once you’re debt-free, you’ll save up 3–6 months of expenses in a fully funded emergency fund. (That’s Baby Step 3.) Listen, grandma told you to have a rainy day fund because, well, it rains. You have $1,000 ready for that. But let’s be honest, sometimes it pours. The security you’ll feel by having Baby Step 3 in place for those moments is like nothing else.

Why do you build this up before investing in retirement? With this security in place, you can focus on investing without fear of going back into debt, because you’ll have cash ready for anything. You won’t be tempted to borrow against your 401(k), which is a huge financial backslide. Your money will be yours. The past will be paid off. Then you can finally start building the future you want.

4: Invest in retirement.

After Baby Step 3, you’re totally out of debt, you’ve got a safety net in case an emergency happens, and you’re ready to start building wealth.

You’ll do this by investing 15% of your gross household income (that’s how much you make before taxes are taken out) into retirement accounts. Start with your employer’s 401(k), if you have one, and invest up to the match.

Then move to a Roth IRA and max out the amount of contributions you can put into this fund. If you still have more money to contribute to get up to 15% of your income, go back to your 401(k) and contribute more there!

Note: If your employer offers a Roth 401(k) and you like your investment options, you could invest your whole 15% there.

Gazelle Intensity: One Step at a Time

Okay, now you know if you should pay off debt or save for the future, based on where you are right now. But don’t get the wrong idea. Just because investing for retirement is fourth on the list doesn’t mean you should take your time getting to it. The sooner you start saving for retirement, the more wealth you can build.

Work through the Baby Steps as quickly as possible so you can get started on Baby Step 4. You need what we call gazelle intensity. Think about it: A cheetah is the fastest land animal, right? But do you know who can outrun it? A gazelle that cheetah wants for lunch. Because the cheetah is running after a meal, but that gazelle is running for its life. Its whole future is at stake. If that gazelle pauses to blame its circumstances or complain about how the odds are stacked against it, it’s game over for the gazelle.

Run through the Baby Steps like your future depends on it—because it does! The retirement of your dreams doesn’t have to stay a dream. You can make it a reality. And you can have a savings account ready for whatever life throws at you. And you can be debt-free and in control of every single dollar of your income.

You just need to follow the steps. In order. With gazelle intensity.

Learn how to do just that with Ramsey+. You’ll get online courses like Financial Peace University—which has taught nearly 6 million people the plan to run through those Baby Steps and build true wealth and security. The average household pays off $5,300 in the first 90 days of working this plan!

Remember our student loan example? If you kept up the momentum of those first 90 days going for two years, you’d pay off that $38,792 loan. And then some. Goodbye credit cards, car loans, everything. Hello real, focused progress.

You can get security with your money and build the life you want—one (baby) step at a time. Start your Ramsey+ free trial today!


Ramsey Solutions

About the author

Ramsey Solutions

Ramsey Solutions has been committed to helping people regain control of their money, build wealth, grow their leadership skills, and enhance their lives through personal development since 1992. Millions of people have used our financial advice through 22 books (including 12 national bestsellers) published by Ramsey Press, as well as two syndicated radio shows and 10 podcasts, which have over 17 million weekly listeners.

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