To invest or pay off debt? This widely popular and essential financial question can be complicated and has even stirred up disagreement from experts. While the infamous Dave Ramsay errs on the side of pay off any form of debt first, other experts in the space feel a combination of the two is the way to go. 

Through my research and experience, I can only share my beliefs. But, keep in mind, I am not a licensed professional, and if you are struggling with debt, I would highly recommend speaking with a Credit Counsellor or Money Coach to discuss your options.  

First, let’s start by stating that no one likes paying off debt. I understand it can feel like your money disappears *poof* every month without feeling like you’re making a difference or getting closer to your goals. It’s certainly not sexy like investing in the stock market or investing in cryptocurrency and seeing your account value go up each month. You may feel investing FOMO and scared for your future since you feel behind.

It’s normal to be questioning whether to invest over paying down your debt these days, especially with interest rates so low, with stock markets at a high, and with investing becoming more accessible and cheaper for the average person.  

Before you change your current debt-repayment strategy, consider this: 

• Not all debt is equal;

• and credit utilization matters

Debt is emotional, so sometimes, it’s not always just about the numbers. 

Your emergency fund comes first

Before you even begin the process of deciding whether to pay off debt or invest, you must have an emergency fund saved up. This is non-negotiable. Things come up (hello, 2020), and you don’t want to be in a sticky position. For example, say you’ve paid down part of your student loans with your savings. Then, for unanticipated reasons, you’re forced to put money on a credit card with twice the interest and no tax advantages. 

Not having an emergency fund leaves you unprotected and without the control in your corner. I would recommend saving a minimum of six months’ worth of your living expenses, plus other essentials. You may even want to keep more with these unpredictable times we’re having. 

Check out this previous Mixed Up Money article titled ‘Emergency Funds: Why, What Type, and How Much?‘ to get to the bottom of all things emergency funds. 

Not all debt is created equal

There are many kinds of debt, and it’s not uncommon for people to have multiple forms — a mortgage, student loans, a car lease, credit card debt, a line of credit, etc. You may be thinking debt is debt, but that’s not necessarily true, as debt has different characteristics and, above all, cost. 

I wouldn’t say I like to use the term “good debt” and “bad debt” since that paints a very black and white picture, but some debt is at least funding appreciating assets, while others are simply eating away at your investment returns through high interest.  

The latter is worth paying off before investing. However, what I feel is high-interest debt, along with what the Securities and Exchange Commission (SEC) feels, is debt with an interest rate of 8% or more that does not offer any tax advantages. This debt will primarily take the form of credit card debt and should be heavily prioritized as no other use of that money will make it worth your while.  

Don’t put your credit score in jeopardy

Above simply looking at interest rates is the effect of your credit utilization on your credit score. Having a low credit score can be detrimental to your financial future, as you may have a more challenging time securing financing or be charged a higher interest rate at the very least. Even if it’s paid in the future, the idea of investing over paying off your debt is to earn you money, not cost you more.  

A significant factor in calculating your credit score is your credit utilization rate. In fact, according to Borrowell, your credit utilization determines 30% of your credit score! It shouldn’t be discounted. Your credit utilization refers to the amount of credit you’re using out of the total amount that you have available. If you’re using all of the credit you have available, that’s a poor sign for creditors about your current financial position.  

Calculate your credit utilization by adding up all of your outstanding debt on your credit cards and lines of credit and dividing it by your total credit available. It is recommended that you keep your credit utilization around 30%. So, if it’s currently too high, this may be a sign to pay off debt until you reach a reasonable level.  

It’s a balancing act

After you’ve paid off your high-interest debt and made sure that your credit utilization is at a reasonable level, the rest is a balancing act.  

I feel that at this point, it’s a good idea to consider investing in the market to some degree and starting to build retirement savings, even if you’re only putting away $25 each month. By starting early, you benefit from the power of compounding, you feel good to be saving for your future (the best and most sustainable debt pay off plans are the ones that feel good), and it builds crucial financial habits.  

There are, however, some things to be aware of when considering if it’s worth it to invest over paying down debt. These include where you’re investing and for how long. Money market and fixed income products likely won’t be worth it, as although they are less risky than the stock market, they won’t make up the difference between the interest rates on your debt and what you’re making. You’d have to invest in the stock market to potentially recuperate your debt interest payments and make gains on top of it.  

Another thing to consider is the volatile nature of the stock market and how returns are not guaranteed each year. The only way to ensure a positive average annual return is time in the market. If you plan on investing only for a little while (less than five years), it’s a better financial decision to take that money and put it towards debt.  

Debt is emotional

Dave Ramsey or other financial experts often fail to take into account that debt is emotional to a great extent. I believe Bridget Casey of Money After Graduation coined the term ‘Emotional ROI’ or Net Return on Investment, and I love that term to this day because it’s so true. 

Essentially, it means that financial decisions like paying down debt also have an emotional factor outside of the numbers. This factor should be taken just as seriously and weighed into any cost-benefit analysis.  

Although stock markets are booming with low interest rates, it may seem wise on paper to put a more significant amount of money towards investing over paying down your debt. But that decision might not feel good or sit well with you at night. It’s perfectly ok to know that about yourself and decide that you need to feel good to pay down your debt as fast as possible.  

You know yourself best, and you need to make sure that you feel emotionally secure in whatever decision you choose.  

Make sure you’re investing for the right reasons

It’s easy to feel confident in a bull market. Unfortunately, over the pandemic, the surge of meme stocks and cryptocurrency has tempted people to be overly aggressive and invest outside their risk tolerance. That is never the goal of investing over paying down debt and should be done safely and securely.  

Remember, save at least six months of essential expenses in an emergency fund. Second, make sure you’ve paid down your high-interest debt first, prioritizing debt with the highest interest rate. Third, calculate your credit utilization rate to ensure you’re not negatively affecting your credit score. Finally, make sure you’re able to keep up with your remaining minimum monthly debt payments — all before you’ve even thought about investing in the stock market.  

Once you’ve done that, the rest is up to you. As long as you stay within your risk tolerance and invest for the long-term, you have my blessing. Dave Ramsey’s advice on debt is outdated, and you deserve to know your options.