Poll: Investing and Paying Credit Card Debt
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The reason I want to conduct this survey is to see whether the change of a person’s circumstance will alter his/her regular investment, though it’s only a small amount.
Last month, I wrote a piece on investing and paying credit card debt. The scenario that I created in that post may not be as good as I would like it to be for making my case: If the investment is for a long-term goal such as a comfortable retirement, it should not be delayed or interrupted, even when one is in a tough situation like battling credit card.
After the entry was published, I received some comments questioning the soundness of my argument, i.e., whether it makes financial sense to invest $100 a month to earn a 10% annual return while having a credit debt that costs 18% APR. Many suggested that the right course of action in this case is paying off the debt as soon as possible and making up the investment contributions after the debt is gone.
Now I want to continue the discussion, but from a different angle. Suppose that you have been investing a small amount of money, say $100, every month in a non-retirement account for retirement for years. Then, suddenly something unexpected happened and you incurred $10,000 credit card debt which charges 18% APR. While you are determined to get rid of the debt as soon as possible, will you continue to make the $100 monthly investment? Or you will wait till the debt is eliminated to restart it?
We have been in a similar situation before, though we weren’t really in debt. We started investing in 2001 with regular purchase of $50 or $100 of several mutual funds. In early 2002 there were a short period of time that both my wife and I lost our jobs in the telecom crush. At the time when our basic living was threatened, I didn’t totally abandon our investments. Instead, I scaled back the purchase from $100 to $50 for some funds while suspending automatic contributions to others because I knew I couldn’t afford to invest as usual when we were living on our savings. It was some tough time for us. One of the first things I did after we both reemployed was to resume the investments, which have never been interrupted since then.
What would you do in this case?
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If I lost my job I would probably keep up the investment rationalising it by thinking that I could always access the investments in a real emergency.
In your situation, I would try to scale back and keep up my investing. However, if I acquired a lot of credit card debt, I would scale back my spending, stop my investments (except for my matching 401k retirement plan), and try to get the cc debt paid off as quickly as possible. Then I would try to stick with the lower spending while cranking up my investments (to make up for the lost time).
I did find myself in a similar situation, but only $1k of credit card debt. I didn’t interrupt any automatic retirement savings, but I did empty out my EF and savings accounts to pay it off.
When in debt, it makes sense to keep the investments that get the match intact and tightening the belt is necessary in order to get out of debt as quickly as possible. Now let me imagine a scenario. If you have, say, $10K in credit card debt and after some calculations, you decide to put $1000 toward debt payment while reducing your expenses to come up with
that amount of money. At the end of the month, you find you have $100 surplus in your account. What would you do with that $100? Pay debt or invest it since you already invested $100 a month before acquiring the
debt? After the debt is paid off, you find that now you can live on the exact amount of income and the same budget when you were in debt, but you have $1000 now after all the necessary expenses are taken care off.
What would you do with that $1000? Invest all of them or part of it (so you go from $100 monthly investment before to, for example, $500) and use the rest to do things that you have skipped when you were paying the
debt?
I’ll take option C… use the money that you’ve been saving up with the $100 monthly investments, pay off as much (or all) of the $10,000 and then start again.
It sounds sad to start all over, but it’s the same effect of slowing down to pay off the $10,000 debt over a long time. It’s a lot better than paying all that compounding 18% interest.