Thursday, September 18, 2014
Inquirer Daily News

Ask Carrie: What comes first—paying off student debt or saving for retirement?

Dear Carrie,

I’m 24 and came out of school with $80,000 in college loan debt. I’ve been luckier than most of my friends and have a full-time job, but I’m wondering whether I should pay off my loans before I start saving for retirement. What do you think?

—A Reader

Dear Reader,

Great question—and timely. There’s a big concern today that paying off student debt is keeping young people from investing in their futures. Not only in terms of retirement, but even in terms of more immediate goals like buying a home or starting a family.

But it doesn’t have to be this way. I believe any graduate who’s struggling with debt has the ability to balance past obligations and future goals. You just have to prioritize.

The first thing is to realize that not all debt is the same. For instance, debt that’s lower cost, tax deductible, or taken on for an economic benefit, such as a mortgage or a student loan, can be a financial tool. On the other hand, high-cost debt such as credit cards and car loans can be a financial nightmare.

Your goal should be to shed the high-cost debt as soon as possible, systematically pay down the debt that’s working for you—and start saving.

From my point of view, retirement should be high on your list. So once you have the minimum payments on your student loans covered, here is how I suggest you handle the rest:

  1. Contribute enough to your company retirement plan to take full advantage of your employer match. This puts extra money in your pocket.
  2. Pay down credit card balances or car loans, starting with the highest interest loan.
  3. Build an emergency fund to cover at least 3-6 months’ essential expenses.
  4. Save more for retirement. Because you’re starting in your twenties, you should be fine if you save 10 percent of your gross salary throughout your working years. (The percentage goes up if you start later.)

To me, these first four points are important for everyone. Once you have a handle on them, you can tackle the following goals according to your personal preference.

  1. Save for a child’s education. (Notice that retirement comes first.)
  2. Save for a home. (Again, retirement first!)
  3. Pay down other debt. For instance, increase your student loan payments if you can swing it.
  4. Save even more. Once you’ve saved money beyond your emergency and retirement accounts, add to it in a taxable investing account.

As you look ahead, it’s also essential to understand that saving for the future and investing for the future are two different things. Saving means putting your money in a safe place such as a federally insured bank account. You won’t get a big return, but when it comes to your emergency fund or any other money that you know you will need in the next three to five years, safety is paramount.

When you’re preparing for a goal that is many years out (such as retirement), however, it is appropriate to invest your money in the stock market so that you have the potential to outpace inflation. Don’t hesitate to consult with an investing professional as you build a diversified portfolio.

Don’t get me wrong. It’s great that you’re focusing on your student loans. You absolutely need to stay on top of them—and never miss a payment. To make it easier, you might devise a simple spreadsheet so that you always know the amount owed, interest rate, term of the loan, minimum monthly payment, and repayment date. Consider consolidating loans to lower interest rates (possibly) and streamline payments.

Finally, put as much as you can on auto-pay—not only monthly bills, but also savings. You can even direct savings automatically into a brokerage account to start building a diversified portfolio.

I give you a lot of credit for taking your student debt seriously, and for thinking about retirement this early. If you can handle both, you should be in good financial position for both the present and the future. Best of luck!
Looking for answers to your retirement questions? Check out Carrie’s new book, The Charles Schwab Guide to Finances After Fifty: Answers to Your Most Important Money Questions (Crown Business, 2014), available in bookstores nationwide. Read more at http://schwab.com/book.

This column is no substitute for an individualized recommendation, tax, legal or personalized investment advice. Investing involves risk, including possible loss of principal. COPYRIGHT 2014 CHARLES SCHWAB & CO., INC. MEMBER SIPC. (0614-3160)

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Carrie Schwab-Pomerantz
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