Should You Use Savings to Pay Off Debt?
Having a healthy savings account is always a good idea. It helps financially protect you from the unexpected and can help you reach financial goals. But if you’re also sitting on some debt, you may consider using your savings to pay it off.
Deciding whether to use savings to pay off debt is not a black and white decision. The choice should depend on your own financial situation and money mentality. Weighing the pros and cons can help you determine the right move for you.
Benefits of Using Savings to Pay Off Debt
You’ll Save Money Over Time
Even if you’re saving in an account that gains interest over time, most likely that account is not growing at the same rate that your debt is accruing interest. Most savings accounts cap out around 1 percent, while credit cards may carry APRs over 20 percent. As a result, while it can feel like you’re losing money in the moment, the sooner you can pay off your debt, the less you’ll spend over time.
Your Credit Score Will Improve
When debating whether to pay off debt or save, it’s also important to consider the impact on your credit score. Using your savings to pay off debt can help improve your credit score:
- Lower credit utilization: With less debt, your credit utilization will decrease. Your credit utilization is the amount of debt you owe compared to your available credit. If your utilization ratio is above 30 percent, paying off your debt could actually have a relatively significant impact on your score over a few months. If you’re in need of a boost in your score, you may consider using your savings to pay off your debt.
- More attractive to lenders: Improving your credit score will also improve your ability to qualify for financing. Additionally, paying off your debt will improve your debt-to-income ratio, which is another measure lenders will consider. This can be beneficial if you’re planning to buy a car or a house or take out a large loan in the near future.
You’ll Be Better Positioned to Save
Using your savings to pay off debt can feel like you’re giving up your savings. However, paying off your debt can actually make you better poised to save in the future. Because you’ll no longer have to funnel money into your debt payments, you can put those funds towards your savings. This can help you recoup the money you put towards your debt quickly. Also, the more you’re able to put into savings, the more quickly your money will compound.
You May Feel Better
Giving up your savings can feel like a major mental hurdle. However, if you feel like your debt has been weighing you down, paying it off can give you a great sense of relief. Debt is proven to cause emotional distress. And you can’t put a price tag on your mental health.
Drawbacks to Using Savings to Pay Off Your Debt
You May Not Be Prepared for an Emergency
One of the main benefits to having a healthy savings account is to be financially prepared for an emergency. We all hope we don’t find ourselves in unexpected situations, but unfortunately it does happen from time to time.
Having savings for these circumstances is certainly advisable because:
- You may not have access to your credit card or be able to use your credit card for the situation you find yourself in.
- If you do have access to your credit card to pay for the emergency, you’ll then pay interest on the funds.
- Relying on credit or debt to fund an emergency could lead you down a dangerous financial path. You may find yourself with unmanageable debt that could cause further financial problems.
Cash, therefore, is often the best way to pay for an emergency. This is a major case for thinking twice before using your savings to pay off your debt.
You May Feel Better
Sound familiar? For some, having debt hanging over them is incredibly stressful. Therefore, paying off the debt could be a major relief. On the other hand, some may feel very anxious at the thought of not having a financial cushion in the form of savings. Additionally, if you’re saving towards a financial goal, such as buying a house, draining your savings can set you back in your timeline. Therefore, for some, holding onto their savings may be the better move for their mental health.
So What Do I Do?
There is not a right or wrong answer to this question. Generally, using your savings to pay down debt may make more sense mathematically. But that doesn’t necessarily mean it’s the right decision for you.
Additionally, it’s important to consider how you got into the debt in the first place. Having a healthy savings account means you have some financial discipline. But it’s important to address the root cause of the debt, which may be attributed to:
- Lack of cash flow
- A temporary financial setback
- Any combination of these factors
Using your savings to pay down your debt could actually hurt you if you fall back into the same habits and rack debt back up right away.
If you’re not going to use your savings to pay off your debt, consider at least preventing yourself from adding to your debt. Stash your credit card away. This will help you chip away at your debt more quickly.
If you’re struggling with debt, or could use some guidance on the best move for your situation, speaking with a financial professional, such as a debt attorney, can help. Tayne Law Group, P.C. is here for you. Our team of debt professionals can help you determine the best path for you and get you on the road to financial freedom. Call us for a free consultation today at 866-890-7337 or fill out our short contact form and we’ll get in touch!