Should I pay down debt, save, or invest?

Range Certified Financial Planner
Range Certified Financial Planner
August 1, 2022


Many people think that the option to pay off debt or invest has to be a binary decision. However, we've often found that you can do many things at once! It all comes down to how quickly you want to achieve certain goals or how quickly you'd like to be debt-free. Good debt is typically backed by an asset or income-producing investment. Bad debt is typically consumer debt like credit cards and personal loans. If debt payoff is your most important goal, consider paying down debt as quickly as possible using the avalanche method (highest interest rate balances first). There's also the option to pay down debt and invest at the same time, particularly when it comes to contributing to your employer's 401(k) program.

Find the Highest and Best Use for Your Dollars

Let's start with a few disclaimers:

  1. The answer to the question of "should I pay down debt, save cash, or invest?" depends heavily on your personal preferences around debt and your specific financial goals.
  2. Debt can be a very hot-button issue, and there are many ways to approach managing personal debt and cash flow. All else equal, the quicker your bad debts are paid, the quicker you can focus entirely on saving and other financial goals.
  3. Getting rid of debt can also remove potential emotional and/or mental burdens about your finances, which can't be understated as it relates to your holistic well-being. Finances are the number-one source of stress for employees (more so than work, health and even family issues). Even among employees with an annual household income of $100,000 or more, 52% report feeling stressed by finances.

For example, a soon-to-be-retired couple may have a sizable mortgage balance with a very low-interest rate of 2.75%. As we'll see from the article, it may make sense to keep their liquid funds fully invested instead of withdrawing the lump sum necessary to pay off the loan with a balloon payment. However, it's not uncommon for people to say "I'd simply rather enter retirement completely debt-free and without a mortgage payment." Even though it may not be the 100% optimal financial decision, there's absolutely nothing wrong with that objective.  

The other case might be a 20-something working professional who is overwhelmed with credit card debts and loans from other friends or family. They might choose to sacrifice some regular savings programs and focus exclusively on repaying those debts before turning to long-term saving or investing.

First things first. Don't Forget the Basics.

All else equal, we recommend keeping your cash runway (# of months' worth of your expenses in cash or cash equivalents) at a level of 3-6 months or more. If that amount is beyond reach, try to at least have $1,000-$5,000 in cash at all times in case of emergencies or unforeseen cash needs. You should strive to always have enough to meet your minimum monthly obligations to avoid missed payments on debts and other required subscription services like utilities or vital memberships.

It's also helpful to consider what debt might be considered "OK" debt versus "Bad" debt. There are a number of opinions out there as to what constitutes good debt or bad debt, including viewpoints from pundits such as Dave Ramsey, who considers there to be no such thing as good debt. We tend to take a different approach.

"OK" Debts

All else equal, good debt is debt that is used for the purchase of an asset or an income-producing investment such as a rental property. Also things like low-interest auto loans, or low-interest financing on furniture, mortgages, business loans, investment loans, etc. These loans can be used as a way to use leverage in a smart way while keeping your existing investments, assets, and cash savings in tact. These loans also help build good credit over time by staying up to date with on time payments and bolstering your "mix of credit" factor for your credit score.

One could also argue that student loans are "OK" debt, due to the education and future earnings potential that are received in exchange. We would need a whole other blog for that topic!

The interest rate and the terms of your financing are always going to have a factor in whether or not you take on "OK" debt or not.

"Bad" Debts

Bad debts are often considered things that are "uncollateralized", meaning there are no assets to back up the loan. These include things such as credit card debt balances that roll over month to month, personal loans that have no collateral, bad business debts, loans owed to family and friends (depending on the circumstances), etc.

Typically, the hierarchy of interest rates (or APR's - Annual Percentage Rates) are as follows (listed from highest to lowest):

  • Credit cards ---> Between 14.99% and 34.99%
  • Personal loans ---> Between 5.99% and 14.99%
  • Auto loans and student loans ---> Between 2.99% and 7.99%
  • Mortgages and other home loans ---> Between 2.25% to 6.99%

All of the interest rates listed above are contingent upon the borrower's creditworthiness and the level of interest rates at the broader economic level.

When it comes to debt payoff strategy, we recommend the Avalanche Method, which focuses on paying down the highest interest rate debts first.

The right approach for you also depends on the magnitude of your balances, the nature of the debt, and the associated interest rate(s). If you are saving thousands of dollars of cash in savings accounts earning 1% annual percentage yield, but your credit card balances are carrying over month to month at 25.99% APR, you are almost always going to be on the losing side of that equation!

In another example, if you have student loans with an average interest rate of 4% and you believe your investments over the next several years have the potential to earn 7-9% (on average), then you may end up making more money on your investments than your student loans are costing you.

It should be noted that investment returns can be volatile and unpredictable, to say the least, so be very careful assuming that your investment returns will outperform your interest rates consistently. By paying off $1 of debt that is currently charging you 17.99%, you are essentially earning that same rate of return!

Below are the average annual returns for stocks, bonds, and balanced funds comprised of 60% stocks and 40% bonds. This data goes back to the Dot Com market crash of 2001-2002:

Of course, there is no guarantee that past performance dictates future results!  

The best way to illustrate this is to look at the numbers. Compare the rate of return on your investments to your credit card's annual percentage rate (APR). Historically, the average rate of return for stock market investments is around 10%, while, on average, APR on credit cards is above 20%.

If the debt is high-interest rate debt like credit card balances (APR of 21.99%+), we would highly recommend focusing on debt payoff before making any investment (with the exception of adding money to your company 401(k) up to your employer match).

Don't Forget About 401(k) Matching and Long-term Compound Interest

If you are enrolled in an employer retirement plan and your employer matches your contributions dollar for dollar up to a certain amount, we recommend contributing enough to get the employer match. Employer matches often represent 1:1 additions (dollar for dollar), a.k.a 100% return on your investment.

Using the same methodology as the previous examples, a 100% return on your investment for 401(k) match would certainly beat a 29.99% annual percentage rate on your credit card debt balances. The flip side of this equation is if your debt balances are causing you to have a poor credit score or not qualify for things like mortgages, refinances, apartment buildings, etc., then we recommend making debt priority as high of a priority as possible.

In certain circumstances, we would not hesitate to recommend pausing all retirement contributions until your debt balances are under control and are making progress towards being consumer debt free. However, starting to save as early as possible can lead to a long-term compounding effect which can benefit you over time!

When considering paying off debt or investing we highly recommend using a comprehensive cash flow analysis to determine what you have coming into your household:

  • What do you have coming out in the way of expenses, both fixed and discretionary?
  • What is your employer's match on your retirement plan contributions?
  • Do you have the right level of tax withholding coming out of your paychecks according to your predicted effective tax rate for the year?
  • What surplus is leftover at the end of the month for purposes of saving, investing, or debt payoff?
  • What amounts of money do you have set aside in cash, which could be used for investing or debt payoff?

Many people think that decision to pay off debt investors save has to be a binary one. But we've often found that you can do many things at once. And it all comes down to how quickly you want to achieve certain goals or how quickly you'd like to be debt-free.

For example, let's say a late 20-something person has significant student loan balances, participates in their 401k through work with a 100% employer match up to 5% of salary, and also wants to save for a short-term vacation and long-term house downpayment fund. All they would have to do is perform a simple exercise to determine 1) when they would like to achieve each goal, 2) how much they would like to spend, and 3) how much it would require month over month and 4) what is leftover.

Once this goal is achieved substantially, they can then turn to things like retirement saving, after-tax investments, saving cash runway, or other uses of cash like purchasing furniture or other discretionary spending.

Every person's circumstances are different and everyone has come different comfort level with debt. Another example we often see is someone who has allowed credit card balances to build up and now is faced with high monthly payments with high-interest rate charges on existing balances.

If this person is a homeowner, there may be opportunities to take money out of their home equity in the form of a cash-out refinance and pay off their credit cards using this additional liquidity period. There are a number of considerations when deciding to do so such as terms of the home equity line of credit or the cash-out refinance. Also, you have to decide whether or not it is financially detrimental to do so even in the long term even if it is saving the credit card interest in the short term.

Consistently Evaluate Your Circumstances AND External Factors

There are going to be years in which the stock market is down significantly, such as what we are experiencing in 2022. Thousands of Americans are paying off debt instead of directing excess cash flow to savings or large purchases.

Americans’ total credit card balances total $841 billion in the first quarter of 2022, according to the latest consumer debt data from the Federal Reserve Bank of New York. That’s a $15 billion drop from $856 billion in the fourth quarter of 2021.

Every dollar of debt that they pay off, they are essentially "earning" that rate of return that the debt interest rate was costing them.

Note: If you have to liquidate investments to pay off debt, we would not recommend doing so in order to allow those funds to rebound when the stock market rebounds in a cyclical nature.


In the end, only you can determine what the right decision is for your financial situation. When it comes to debt payoff or investment, realize that both are important and have their own time and place in your overall financial picture. The decision does not have to be a binary one either! Many people save, pay down debt, and invest all at the same time.

We hope that the information above will help you decide on your personal priority between debt payoff, building cash reserves, and investing in a diversified fashion. Whatever decision you choose, we have just one nugget of advice: keep at it. Patience, persistence, and accountability are key! Try to automate these things as best as possible to avoid having to think about it every time you have money to direct somewhere.  

Failing to plan for the uncertain future is a recipe for financial disaster. Don't let that happen to you! Having a plan in place can help ease the stress of making important financial decisions over time.

Range is here to help.

With Range, you can connect all your finances into a single dashboard to track, monitor and plan the best version of your life. Say goodbye to middlemen and spreadsheets and hello to the new financial you.

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