Sometimes, going against conventional wisdom can work out in your favor.
I stumble on your website after a Google search and what a pleasure it was. I have a situation and I’d appreciate your honest opinion on it. I am graduating college in about a month with about $30,000 in credit card debt and student loans. I’ll be starting a job in June paying $72k/year. I was thinking of paying off all my debt during my 1st year.
Doing this would mean minimal savings. Do you think it is a good idea? FYI: I have about 20k in student loan and 10k in credit card.
Many people will tell you to build an emergency fund first, but I will tell you otherwise, as soon as you feel comfortable in saying that you are safe at your current position.
But First, Congratulations
It’s great that you are finding a job.
- Especially in this economy.
- Especially straight out of college, and
- Especially at such a good pay.
For those still looking to find work, there’s hope. But let’s get back on track, your question about your debt.
Pay Off the Debt First
Everyone has touted the benefits of an emergency fund, but I see your situation a little differently as a fresh graduate. Emergency funds are for times to tide people over in cases where income vanishes (ie, lost of job). But as a young individual, you likely never had long term full time employment and you manage to live all these years.
Also, your expenses are likely still low, and choosing to build an emergency fund and leaving your debt is only likely going to speed up the rate you inflate your lifestyle.
Since you can make significant progress towards your debt repayment in a very short amount of time, the best approach, I feel, is to pay off your debt first.
Like you said, you will have minimal savings for a while, but being debt free and starting clean will help you build a much better foundation for the future. This is also why I didn’t ask how low your interest was on your student loans. It’s at $20k, and while it’s a sizable amount, it’s not for someone like yourself who earns $72k and can make significant more as you progress through your career. Pay it off first gives you a better chance to learn better money management skills, so the benefits outweigh the fact that you may be able to hang on to low interest debt and invest it for a higher return.
To help you pay them off, here are 25 tips to pay off your debt.
If you truly want to build a small savings first, remember that you are now eligible for a 401k as well as a Roth IRA. The 401k match, if your company provides it (and you are eligible right away), is like free money. Take advantage of that if you can first, though I feel that paying off your debt first and not having much savings will help boost your appreciation for money during the first year, and ultimately help you more down the road than a couple years of company matches.
Secondly, when you think about where to put your savings, you may want to contribute to a Roth IRA instead. Contributions to a Roth IRA can be withdrawn at any time without penalty, so it actually acts as a good way to build an emergency fund. Just remember that while contributions can be withdrawn penalty free, earnings are a different story. If you decide to go this route, note the rules and make sure you know how much you can withdraw before you work out the numbers.
Note that it will be hard to pay off $30k worth of debt in the first year. When you get your paycheck, you will realize that all the taxes, unemployment insurances, medicare, social security etc will eat into a big chunk of your paycheck. Depending on where you live, it could be as much as 30% or even 35% less than your negotiated salary. Add on the interest that your $30k will accumulate in the first year, and you are probably looking at needing a little more than one year to pay off your debt.
Then again. Just focus on paying it off aggressively, and whether it takes 12 or 13 months is a relatively minor point since you have your whole life ahead of you.
Which Debt to Pay Off First
Your credit card debt is small and carry a higher interest so this one is easy – pay that off first and just pay the minimum on the student loans. Once the credit card debt is gone, you can work on your student loans at full force.
Usually, I will advise people to consolidate their debt (especially credit card debt) to a lower rate using either Lending Club, or those 0% balance transfer credit cards to save on interest. However, again, since you can repay your debt relatively quickly and you are starting out in your career. I think it’s better to just stick with the high interest, and instead focus your time on developing good money habits by reading sites like this one and skills for your career.
Do What Works for You
As you can see, what my suggestions are may not always be conventional, nor are they purely based on mathematics. Think about what the reasons why I’m recommending what I’m suggesting, and do what you feel is best for you. When you are behind an idea, you can make it work even if it’s not the best. Good luck.