Millions of people are knee-deep in debt today. The number of people in debt and the amount of unpaid and overdue debt is alarmingly increasing. Does this mean the idea of investing is out of the picture for the entire country? What’s really more important? To pay off your debt or invest the remainder of your wealth in something that could potentially produce sizable profits? Here’s what you need to know.
The Situation
As an investor, one of your toughest problems is deciding how to juggle savings, investments, and debt management. In reality, there is a huge difference between investing and saving money, and both have vital roles in establishing a stable portfolio. What investors need to discover is the role of debt. With respect to investing, is debt good or bad? Should you settle your debt or improve your 401(K) contributions?
Debt Vs Investments
The most typical question when it comes to managing debt is whether you should immediately pay off your debt to avoid soaring interest rates or wait to pay your debt and instead invest the money so that you can settle your debt when the investment starts to pay out. The answer, unfortunately, is uncertain and depends on various factors. Experts use certain formulas to determine whether you should consider paying down your balance or focus on investing for ROI. Factors may include the amount of debt you owe, interest rate, the profitability of your chosen investment portfolio, and the time frame for the investment to grow and start paying out.
Liquidity and Debt
Basically, your total debt does not matter. Liquidity and cost of debt are more important variables of the equation. Debt in its purest form is not evil. If you can borrow a million dollars at 3 percent to purchase a hotel that produces 10 percent in returns yearly, the debt could actually aid in producing a huge income for your family. But if you purchase a depreciating asset like a car for the same value, you won’t be able to recoup the interest rate on the loan. One of the most important secrets that novice investors have to learn is that the total debt is irrelevant, and only the liquidity and cost of debt are.
Considerations
If you do choose to pay off debt rather than invest your money for retirement, you are prone to losing much, including a possible company match, tax breaks, and the power of compounding. A company match is commonly found in employers offering 401(K) retirement plans. They often give half of what you contribute or around 6 percent. Tax breaks, on the other hand, are when you put a dollar into a retirement scheme and you get to invest the whole dollar amount, rather than the taxed proportion, which is what you’d save if you put it in the bank.
The power of compounding is something you should contemplate. It is deemed the eighth wonder of the finance and business world. It can make you rich if you are eager and smart enough to understand how the system works. While tax debt representation carries serious consequences, deciding between paying off debt or investing depends on your specific interest rates and financial goals.
