Real Life Planning Podcast Episode 60: Should I Save or Pay Off Debt?

In Episode 60 of the Real Life Planning Podcast,  host Vekevia Tillman-Jones, CFP®, MBA, helps aspiring real estate investors decide: Should I save or pay off debt first? If you're balancing credit cards, student loans, and the dream of buying your first rental property, this episode offers clear guidance on how to prioritize your finances while building toward your goals.

" Not all debt is created equal.” - Vekevia Tillman-Jones

This week on Real Life Planning Podcast:

Takeaway Quotes

"Time is on your side, but at the same time, you can't waste time—you don’t have time to not save, but you also don’t have time to let debt push you further from your goals.” - Vekevia Tillman-Jones

" The best answer to saving more versus paying off debt is actually both—and it’s a hybrid approach that lets you build while you reduce.” - Vekevia Tillman-Jones

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About the Real Life Planning Podcast

Hosts Cynthia Meyer and Vekevia Tillman-Jones explore practical steps for real estate investors to build financial freedom and make working for someone else optional.

Episode 58 Transcript

[00:00:00] Should you save more or pay off debt? Are you an aspiring real estate investor or new to real estate investing and you're wondering whether it makes sense for you to go ahead and pay down some debt that you've been carrying or save more? Well, on today's episode of the Real Life Planning Podcast, we're going to go over some things to consider as you make your decision.

[00:00:20] So maybe if you have some savings already, but you also have some lingering credit card debt or loans, this episode is for you.

[00:00:27] So why does this all matter? Like at this stage, most people are juggling so many different things and so many different competing priorities. And then you have like this one bucket of income or you know, set income. So there's mortgage, uh, maybe your rent or you're paying for your children and their college or school expenses in general, extracurricular activities.

[00:00:52] You're also trying to pay down student loans, or maybe you have credit cards and pay for all of those things. A new car or someone needs a car and all at the same time, you need to save for retirement. So it's not easy to figure out which one of those do you tackle first, and it's definitely not easy when you hear that, it's almost like all of them at the same time that need your attention.

[00:01:13] So what do you do? Time is on your side, but at the same time, you can't waste time. You don't have time to not save, but you also don't have time to just leave the debt and allow it to accumulate and then push you further away from hitting your goals, or at least within the timeframe that you're looking for.

[00:01:30] So it does matter. It matters which area you focus on first, and the way that you approach it could be simple. So here's how you look at it. Not all debt is created equal. So you could have high interest rate debt, think credit cards or personal loans. Oftentimes, credit cards and personal loans can have interest rates and cost you 10 plus percent, right? And that's very high. So if you had to prioritize and look at this and say, which debt would I want to tackle first? It's definitely going to be that high interest rate debt that's eating into your savings or your ability to save because it's just so expensive. So 10, 15% credit cards, and it could be even higher.

[00:02:14] Sometimes, credit cards might have a promotional period where it's 0% interest or lower interest rate for a set period of time. But after that promotional period, it also tends to jump up to a double digit interest rate. Now that's a high interest rate type of debt, which we consider more like bad debt, right?

[00:02:30] If we had to put a, a term it, put uh, a name around it, it's bad debt. And then there is low interest rate debt. Think like a low mortgage, you know, it's good debt. It's going to be something like a mortgage because you did get the home. Unless it's a very, very high interest rate, it usually will not be what you pay on a a credit card, right? So that type of debt is a bit more understandable. You can tolerate that. You could focus on that secondary.

[00:02:51] So first, the high interest rate debt, you want to worry about that, and then you can move on to any of the other debts. Now when you think about it, if you're looking to get involved in real estate or maybe you were just starting out in real estate and you've got your foot wet just a bit, well, you know that often making that first purchase, you need 10 to 20% down.

[00:03:09] So paying off that high interest rate debt is going to allow you to be able to save more so that you can put money to towards your goal of owning real estate and having the down payment that you might need. A 20% down payment on real estate might sound like quite a bit too many to people, and that is, there are ways around it.

[00:03:25] Of course, certainly if you were to move into the property and it's going to be owner occupied, right? So maybe you get a multi-unit property and you also move into one of the units and oftentimes you can get away with putting a lot less down, maybe three and a half, 5%, or 6% or so. And so still, even though that's significantly less than the 20% often required for an investment property, you still need to be able to free up cash so that you can save towards that down payment, as well as being able to save towards any emergency fund money that you might need on the personal side or on the rental property side.

[00:03:57] So cash is king. So the rule of thumb for this is to remember that anything above six, seven, even 8%, you want to focus on paying down that debt.

[00:04:07] Of course we all know and we would not argue that it's very important to save. And then we wouldn't argue that it's very important to pay down your debt. . And we've already said that prioritizing the higher interest rate debt first would make the most sense. So let's just talk about the pros for choosing one particular area. So we'll start with savings first.

[00:04:27] Now we are trying to choose between saving or paying off debt, there is a reason that you might save first one of them is building an emergency fund. If anything should come up. You don't want to have to put any emergencies on a credit card. You don't want to have to go deeper in debt. So having at least three to six months worth of your expenses saved is going to allow you to be able to tap into your bucket that you've already planned for, not have to go deeper in debt, and you already have an emergency fund; that is crucial. So three to six months worth is the goal. Oftentimes, you might hear that one month is a at least a good start, and certainly it is. You want to start somewhere, but at least three to six months worth of an emergency fund for any of your personal savings. Now, that doesn't mean that every single thing you need to include. You might look at your budget and say, you know what? If you know I had lost my job, or for whatever reason I'd had an emergency come up, or I just don't have as much income, there's some things in your budget that you might be willing to cut out. Maybe you might not go to the hairdressers often, or maybe you might cancel some of the subscriptions. Maybe, uh, you have Netflix, Hulu, all of these various subscriptions that maybe you could just pause for just a bit until you get back on your feet. It just depends what your situation is. But that might allow you to say, actually, if I need an emergency fund, perhaps I could stand to have three to months worth of expenses that are not as high as what we spend when everything's going really well. But three to six months worth of expenses is a big deal.

[00:05:59] Now another way to be able to make sure that you're saving is do not neglect what you get from your employer at work. So a lot of people have access to a retirement plan at work, for instance, like a 401k or 403B, and your employer a lot of times will match a certain percentage of whatever you contribute to your retirement account.

[00:06:20] So what you want to do is you don't want to leave that money on the table. It's essentially free money. You get paid for saving for yourself. So you save, and then your employer will match whatever percentage they match. So you need to check with your employer if you're not sure. You could check to see how much you need to put in to get the full match from your employer. I would suggest at least doing that.

[00:06:41] So you'll have the emergency fund, the three to six month worth of expenses, and then you'll have your employer match.

[00:06:47] Now, the sooner that you start saving for retirement or saving in general, right, because it's not only about retirement, there's a lot of life to be lived in between, or at least you hope so, we want to be investing earlier on, and the earlier that you start, the better your opportunity for growing that investment. So at 40, think about that. It's not too late. You still have 25 years or so potentially to save for retirement. So you want to be saving for the near term, but also for the long term.

[00:07:15] So if you don't have an emergency fund saved or you don't have the three to six months worth of expenses and you're not getting the employer match at work in your retirement account, I want you to prioritize those things before you worry about paying down the lower interest rate debt. Again, these tips are a rule of thumb, and a financial planner could certainly help you go through your particular scenario to see if something else might make the most sense, but that's a good way to be able to tackle and start saving.

[00:07:42] Now I've also run into people who are very, very, very particular and they're like, but Vekevia, you know, having debt just really stresses me out. I want to focus on paying off my debt and there's nothing wrong with it. Certainly paying down debt is a great thing to focus on. Now, I would say though, that you don't want to neglect an emergency fund, so you at least want to have one month worth of an emergency fund saved. And we'll talk about a strategy next after this, but focusing on the debt, at least that one month of an emergency fund. Now, if you want to focus on debt, and you said that it really stresses you out every night. Maybe, you know, it causes you illness, sickness, you hate being in debt.

[00:08:18] If you're going to focus on the debt, we want to start, remember we said there's a good debt versus a bad debt? You want to start with that high interest rate debt. They call that the avalanche method is where you're paying up the highest rate, first, and then you move to the second highest rate and so forth.

[00:08:32] Now, for those of you who you're like, I understand that paying off the highest interest rate debt saves me first, but I need some small wins, and you want to do the debt snowball, which allows you to start with the the lowest balance first, and then move on from there, that's perfectly fine as long as you're paying off the debt. That's what's going to be important now. So focus on the high interest rate debt if you're- is going to make the most sense in terms of your savings, but focus on paying down that debt in general is obviously a good idea.

[00:08:59] Now as a quick tip, if you decide to pay off that high interest rate debt first, what you're doing is you start with the debt that you want to pay off first, and you focus any extra payments to that debt and while you make the minimum required payments on the other debt items, and then once that first debt is paid off, you move on to the second one. So essentially you can add more and more and more to the next debt that you're paying off, while paying the minimum on all the other remaining debts.

[00:09:25] The best answer to saving more versus paying off debt is actually both. And it's a hybrid approach, so any extra funds that you get, think of it, of like a 60/40 split or 50/50 split. Any extra funds you get, you say 60% of that goes towards savings and 40% towards debt. You might do it 50/50, right? And so first it's going to be your emergency fund and building that, your cash reserves. Any low interest rate debt, you just continue to make the minimum payments. And then once you have that emergency fund set up, you move on to paying off the high interest rate debt first.

[00:09:58] Some people might, uh, prefer this hybrid approach because it allows 'em to both build their emergency fund in case an emergency comes up, but then they're also paying off the debt, so they're not having to wait a year. For some people it might take them a year to get three to six months of their expenses saved, or half a year or two years, whatever their situation is and they don't want to necessarily wait before they could pay down on debt. So they're basically straddling doing a hybrid approach and accomplishing both goals at the same time. Like I said though, originally you at least want to have one month worth of your emergency fund and then take that hybrid approach that oftentimes will work for many people and then you can adjust as needed.

[00:10:36] Remember, real estate is a capital intensive type of investment, right? So you at least need 15 to 25% down oftentimes for your rental property. Unless of course you're going to move into that property like I mentioned before, and you might be able to put 3.5% to 6% down, but still, you need money for the down payment, closing costs, and you want to have cash reserves for any expenses that might come up.

[00:10:58] You don't want to have to, uh, be going into debt because there's a leak in your property or something like that. So you want to make sure that you have cash on hand for any type of expenses that might come up with your rental property, but also when you're looking at trying to find your first rental property, if your, uh, debt is too high or your credit score isn't where it needs to be, that can make financing your first property more difficult or you can end up with a higher rate, and that can end up costing you more. So all of those things are very important. So, focusing on getting rid of that high interest rate debt, bringing down that debt to income, those kind of things are going to position you to look very good to a lender should you need to borrow, right?

[00:11:37] Now, if you take these tips and then you get to the point that your debt that's remaining is low interest rate debt, that's a great opportunity. Go ahead and start to save more towards the down payment for your first rental property.

[00:11:49] So, which one should you choose? Should you pay down debt or should you save? Many investors choose that hybrid strategy that we spoke about. So like a balanced approach where you focus on building your emergency funds, three to six months of your expenses is the goal, and then you make sure that you're getting your match in your retirement account at work. You don't want to leave any free money on the table. And then you could always move on to add more to that retirement account later if you can get to 10, 15% or even maxing it out. But in the beginning, you at least want to be getting that match and then you can focus on paying down any high interest rate debt.

[00:12:24] Remember, the high interest rate debt is costing you too much. That's double digits often; for credit cards, for instance. That's costing a lot. Take a look at anything, not necessarily a mortgage, but take a look at anything that's 7, 8, 9, 10, 20%. Look at those things first. Pay off that high interest rate debt that's going to help improve your cash flow and save you some money. And then you could start to move on and build and save the reserves for your first property. You want to make sure you have your down payment. So think 15 to 25% down. And as I said before, if you plan on move into that property, save for at least 6% down. Though you could get it for maybe 3.5%, at least you want to be aiming for at least 6% down. Plus you need any closing costs. And then you want three to six months worth of expenses saved for your property as well that you're going to rent out. Three to six months. And then, you can move on from there and being able to save, save, save, save.

[00:13:19] But you want to get started by focus on, I'm going to pay off this debt and then I'm going to move forward with savings.

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