Pay off Debt or Maximize Retirement Savings?
NEW YORK ( MainStreet) The message has been hammered home time and time again: save for retirement -- you must -- save for retirement. Americans are saying, "Message received." And since the financial collapse, there has been a major shift in priorities among the so-called "mass affluent." Retirement saving is now the top priority of 39% of Americans, followed by paying down debt (26%), according to a Bank of America Merrill Edge report. This is a complete reversal since the 2008 money meltdown.
Somehow, we're placing a priority on saving for retirement over paying off debt. But won't the financial experts say we've got it all wrong? Aren't we supposed to pay off the debt -- and then start setting aside retirement savings?
You come in here with a skull full of mush
"Depends on the debt," says Shane Fischer, an attorney in Winter Park, Fla. "If it's a low interest rate debt that is tax deductible, why not save for retirement first? You get the tax benefits of retirement contributions with the tax write-off of the low interest on the debt. And since you are limited to the amount of 401(k) or IRA contributions you can make every year, why not maximize those contributions first? Additionally, if your debt burden forces you into bankruptcy, your 401(k) contributions are protected from creditors. So if you're going to declare bankruptcy, wouldn't you want to keep as much money as you can?"
Fischer is "thinking like a lawyer," as John Houseman portraying crotchety Professor Kingsfield so famously spewed in "The Paper Chase." But what do the financial advisors say?
James D. Osborne, president of Bason Asset Management in Loveland, Colo. says the debt comes first.
"High-interest consumer debt -- anything carrying a higher rate than your mortgage payment -- should be treated as an emergency," says Osborne. "This means credit cards, auto loans, personal loans - like the one you borrowed for that European vacation - private student loans and home equity loans. Once these loans are eliminated, it's appropriate to first build an emergency fund of three to six months of living expenses and only then start saving for retirement. The only exception to this rule is that investors should always contribute enough to earn their company match in a workplace 401(k)."
In other words, pay the debt first -- unless you get a 401(k) company match.
Put your investments in prison
But, not so fast, says Nancy D. Butler, an advisor in Waterford, Conn.
"The fact that you have built up this debt says that you have had difficulty managing your finances," Butler says. "If you apply the funds you have available to reduce the debt, what is to keep you from building the debt back up again? And, you will still have no retirement savings."