It’s been over a decade since the Great Recession swept
through the nation, yet two-thirds of Americans said they still feel haunted by
its effects in the way they work, live, save and spend, according to a study
from Allianz Life Insurance Co. Many of the 2,000 baby boomers and Gen X-ers
studied also said they had lower confidence in their ability to achieve
financial security. This has only been worsened by the coronavirus pandemic and
its affect on unemployment in the U.S.
For workers who hold credit card debt, which is more likely
to lead to a secure future: diverting what would’ve been their retirement plan
contribution and paying off that debt instead or making their 401(k) plan a
priority? Here are some pros and cons associated with each of these money
The Pros of Paying Off Credit Card Debt First
It will eliminate often high and non-tax deductible credit
card interest rates.
Bringing your credit card balance to zero will improve your
credit score, which will help you to get a lower interest rate if you’re in the
market to buy or refinance a home. Your credit score can also be a factor when
you apply for a job or buy auto insurance.
It will free up money for saving, investing and building
And the Cons
It will divert money away from your retirement savings goals
and perhaps set you up for a frugal lifestyle in retirement.
It will deprive you of the tax deduction that you’d receive
from your 401k contribution if you paid your debt first.
Diverting funds away from your 401(k) plan in order to pay
down credit card debt could cause you to miss out on your company’s matching
The Pros of Contributing To Your 401(k) First
You will be building a retirement nest egg. Younger workers
have the gift of time when it comes to their ability to amass wealth. Failing
to take advantage of that time horizon is a lost opportunity you’ll never get
You will receive a company match on your contributions,
which is free money and an instant return on your deferrals.
Money contributed to a 401(k) is done on a pre-tax basis,
saving you money at tax time.
The money will be put into your retirement savings and out
of reach for unnecessary spending.
And the Cons
Money not diverted to paying off credit card debt will cause
you to pay high credit card interest rates that last much longer.
The interest rate on your credit card is probably higher
than the return on your 401(k). So your credit card interest rate might be 15%,
but it’s likely that the return on your portfolio will be well below that.
Carrying high credit card debt decreases your financial
security. Diverting money away from paying off these cards delays your route to
Katie Brewer, a certified financial planner and president of
Your Richest Life Planning, a virtual financial planning firm for Gen X and Gen
Y, said it was best if people could pay down debt while also building up their
assets. She said people might want to consider cutting their spending by
eliminating monthly cable or subscriptions, for example, and taking on
temporary work to get more income.
“Once you start to make room in your budget, make sure you
are (contributing enough to) at least get the match on your 401(k),” she said.
“If you are contributing more than the match to your 401(k) plan and you are
working on credit card debt, you might think about temporarily reducing your
401(k) contribution to allow more take-home pay to put toward credit card
payoff. If you reduce your 401(k) contribution, make sure to put a reminder on
your calendar to adjust it back.”
Jeff Rose, a certified financial planner and founder of
Alliance Wealth Management, is also the author of the Good Financial Cents
website. He said there were lessons to be learned when workers contribute to
their retirement plan. So they shouldn’t pay off credit card debt at the
expense of saving for retirement.
“They should do both, even if it’s only putting the minimum
amount in their 401(k),” he said. “This way they get familiar with their 401(k)
and how the markets work. It might not be a lot toward their retirement, but it
will be a valuable lesson learned in understanding how to read a 401(k) statement
and a good introduction into mutual funds.”
Strategies To Eliminate Credit Card Debt
Curb your spending. What you save in cutting out expenses
can be put toward reducing your credit card debt.
Consolidate high-interest credit card debt onto a lower
interest card via a balance transfer.
Find a reputable credit counseling agency to get help with
You can’t become a 401(k) millionaire if you’re not
contributing to your plan. According to Fidelity Investments, about 72,000
participants in their plans had a balance of $1 million or more at the end of
2014. What was the common thread among them? They contributed a significant
amount of their salary faithfully to their 401(k).
If you are in deep credit card debt, devise a plan to pay it
off. Keep your spending under control. Contribute as much as you can to your
401(k). Put your financial security first.
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