NerdWallet's Smart Money Podcast - Crush Debt or Grow Investments? How to Make the Best Choice for You

Episode Date: December 19, 2024

Learn how to tackle credit card debt, build savings, and decide between debt payoff and investing for financial growth. How can you pay off credit card debt faster and smarter? When should you prioritize paying off debt over investing your money? Hosts Sean Pyles and Sara Rathner discuss credit card payoff strategies and building an emergency fund to help you strengthen your financial security. They begin by talking to Adam, a Smart Money listener, who has questions about what to do with a windfall. They discuss options for paying down high-interest credit card debt, with tips and tricks on using balance transfers wisely, automating payments and reducing financial stress. They also discuss whether to prioritize debt payoff, fund investments or save for other financial goals — before getting into strategies for balancing long-term retirement planning, managing 0% APR debt effectively, and enjoying life without derailing financial progress. Then, host Elizabeth Ayoola and NerdWallet debt writer Tiffany Curtis join Sean to answer a listener’s question about loan payoff strategies while deciding when it’s better to focus on investing versus debt repayment. They explore the pros and cons of the snowball and avalanche debt payoff methods, how to calculate returns from paying down debt versus investing, and strategies for multitasking financial goals to build a stronger financial future. In their conversation, the Nerds discuss: paying off credit card debt, prioritize debt or investing, snowball vs avalanche method, balance transfer tips, high-interest credit cards, emergency fund savings, how to pay off debt, investing vs paying debt, debt payoff strategies, personal finance tips, managing debt, 0% APR credit card, financial windfall tips, credit card debt help, debt-free planning, emergency fund tips, investing basics, save for retirement, Roth IRA strategies, 457 retirement plan, credit card payoff calculator, budgeting for savings, automating finances, debt-free goals, financial security tips, financial planning for families, saving for college, 529 plan benefits, high-yield savings accounts, avoiding credit card interest, tips for financial independence, and when to invest. To send the Nerds your money questions, call or text the Nerd hotline at 901-730-6373 or email [e-mail]. Like what you hear? Please leave us a review and tell a friend.

Welcome to NerdWallet's Smart Money Podcast. I'm Sean Piles. If there's one question we get more often than any other on the show, it's probably, what's the best way to pay off debt? That goes for debt of all kinds. Mortgage debt, student loan debt, credit card debt, car debt, you name it. If it's a debt, we get questions about it. And there's always lots of news around debt, news that we've covered throughout the year. So today, for our special series featuring the best of smart money 2024, we are reaching back

into the archives for our favorite segments about debt and how to pay it off. It's a best of for best practices. Now onto the show. Welcome to NerdWallet's Smart Money Podcast, where you send us your money questions and we answer them with the help of our genius nerds. I'm Sean Piles. And I'm Sarah Rathner. If you have a money question for the nerds, call or text us on the nerd hotline at 901-730-6373. That's 901-730-NERD. or email us at podcast at nerdwallet.com. Follow us wherever you get your podcasts. And if you like what you hear, please leave us a review and tell a friend. In this episode, we are talking with a listener, Adam, who's 35 and lives in Colorado. Adam has some questions about what to do with a windfall,

whether it's wisest to use it to pay off credit card debt or invest it. Adam, welcome to Smart Money. Thank you, Sean. Thank you, Sarah. Happy to be here. Great to have you on. So let's start by getting to know you a little bit in part because I know Sarah and I, and I'm sure our listeners are nosy people. So tell us a bit about your financial life right now. What's your income like, your debts, your financial goals, the whole spectrum of things? Sure. So I'm happily married with two little boys. One's four and one's a year and a half. We live in Colorado. I work full-time as a professional firefighter and my

wife works in the restaurant industry. We have a pretty healthy retirement thanks to a state pension that I'm a part of. And we live comfortably. We own our house. We have two cars. We're very fortunate to have a roof over our heads, but we do have some credit card debt that's set aside when the water pump goes out on the truck or I break my tooth or what have you. We've had a couple expenses. So we have that and we're trying to build a college fund for our children with the 529s. Other than that, we're just your normal average Americans trying to plug through life and provide the best life we can for our children. Well, it seems like you've checked a lot of the American dream boxes there with kids and a house and retirement funds. So that's great to hear. Congratulations on achieving that,

because by 35, that's a lot to accomplish, especially for folks in our generation. And before we get too far into this conversation, I did want to remind folks that we are not financial or investment advisors. And Adam, we're not going to tell you what to do with your money in this conversation. It's really just some nerdy food for thought for you as you consider what to do with all of your financial goals. So I know that you are debating what to do with a windfall that you might be getting. So as it relates to your credit card debt, your investment goals, other life goals that you have, how would you consider using a windfall currently? So we were fortunate enough to apply for and get a new credit card where we did a

balance transfer at 0% APR. So our goal in 2024 is to hammer out as much as we can to pay down that debt at the 0% interest. So everything's been transferred to that card except for one card that has about $1,000 balance on it. So that's one piece of the puzzle. The other piece of the puzzle is I have a 457 account through work. That is an additional retirement account outside my pension. And then I have a Roth that I just set up completely on my own just this year, just as to diversify my retirement accounts. So this windfall could go either into the 457 payoff credit card debt, or we could even put it into my children's 529. So a lot of different options there. Those are all great goals. So one thing

that I like to suggest people do when they get a windfall is take 10% of it and just enjoy it. Because not every dollar that comes into your life has to be put toward the most utilitarian and efficient function. It's great to do that. And it seems like you are honed in on some very efficient ways to use a windfall. However, you got to enjoy life too. So what do you think you might want to do if you did have, let's say, a $3,000 windfall? What would you do with maybe $300 of that? I think we'd best use the $300 to maybe take a short vacation in state with the boys, you know, rent a cabin or do something over, we call it a four-day. I work

two days on, I have four days off. So I have a lot of time off this with my children. So I'd say something like that. That's great. Because those memories that you would build with your kids now, and that is well worth $300, I would argue it could be priceless. So I want to hone in on the credit card debt a little bit more. How much do you have in total right now? So between my wife and I in total, we're about $11,000, $12,000. And you mentioned that all but $1,000 is on a zero APR credit card. Is that right? Yes. Almost all of it. Yeah. All right. And how long do you have that zero APR term?

It was definitely at least 12. It might have been 18 months. I'd have to double check. Either way, it does give you some breathing room. So that's really nice to have. And remind me, what's the APR on the amount of debt that's not in the balance transfer, your APR? 25%. It makes that a very expensive kind of debt. And a lot of financial planners would say that should be your priority right now is knocking that out. So even if it is just a few hundred dollars extra over the course of a few months to try to wipe that out, that will free up your cash. So you can do something like beef up your emergency fund. Right. And like I said earlier, I only have about a thousand dollars on the 25 percent APR card. The rest has been transferred to the 0%. And that is something we've talked about just this morning over coffee, my wife and I, of focusing on crushing that and leaving that

account zero and just being done with that one. Tell me a little bit about your emergency fund, because sometimes you're just one unexpected expense away from adding even more debt onto those credit cards. So what do you have set aside right now for those unexpected costs? An emergency fund is something that we've never really prepared for or had in place until I got into the financial podcast world and started learning from you guys. So just recently, I did a little shopping around and found a high yield savings account that I opened. And we've been putting $25 in every week since we started that. So our goal is to have a month or two worth of expenses saved up. We've only just begun in the last six, seven weeks. So there's not quite a lot

of money in there yet, but it's growing and it's growing quickly. And it's something we've budgeted for and should be snowballing and snowballing here. I love to hear that because $25 a week doesn't feel like much, but you let a few months go by and you automate those contributions. So they happen regardless of what else is going on in your life. You don't get too busy and forget to make the contribution. And you'll be surprised at how much is in there after just a few months, assuming you don't have to tap into it. And if you ever do have to tap into it, it's going to be really nice to have. So yes, that is excellent progress. I'm so happy to hear that. Yeah. And building on that,

there is a debate in the personal finance space around whether if you have high interest credit card debt, if you should focus on that primarily at the expense of all other goals. I'm a big proponent of doing multiple things simultaneously. So right now, it seems like you can focus on paying off that high interest credit card debt while continuing your $25 a week deposits into this high yield savings account for your emergency fund. That is a great way. So you can basically shore up your defenses for when the next emergency does happen, like Sarah said, and not go into credit card debt. Yeah, Sean and I both had unexpected expenses over the past couple of weeks. Sean, I know you

had car repairs, I had roof repairs, and life just happens. So it's nice to have the funding available when you need it. Yeah, I had a nice $1,500 surprise car expense, actually two expenses. And yeah, it wasn't fun. But I did have the money set aside to cover this. So I was really grateful for that. And now I realize it's going to take me some time to build up those reserves again. And that makes me just a tad bit anxious. But I know that I have these automated deposits set up. I'll be there eventually. And this money was there for me when I needed it. Okay, so now I want to talk about investing for retirement. It seems like you have a few different types of retirement accounts going on right now.

And you're considering maybe putting some windfall cash into one of them. So talk us through that in more detail. So I'm very lucky in the regards that I, as a public service employee, have a pension, which I know is dwindling in the current economic climate. I think only like 10% of most people have funded pensions now. So I'm very, very fortunate in that regard. I have, let's see, 10 years in my pension already. So hopefully I can retire around 55 with 30 years of my pension, maybe a little bit more. I'm very comfortable with that. In addition to my pension, I have a managed 457, which is essentially just like a

401k account. It's an account that I put money in. Our new union contract now stipulates that my department will match up to 3% of my contributions. So yay for that free money. And that's coming in too. That's experienced really, really healthy growth over the last few years, which has been great. So I have those two main things. I've had those for several years now. And I just recently opened a Roth, clearly independent, not associated with my department, just on my own accord, just to kind of diversify some income streams when we do retire, just to kind of change up my different tax advantages. So that is something new within the last two, three months. And that, Sarah, like you were talking about earlier with automation, that's all automated now. It's just a single investment once a month at a set amount.

And I'm already starting to see minuscule, but some returns on that. And hopefully that gets bigger and bigger over the next 20, 25 years. That's great to hear. And I think your approach to investing makes sense for where you are in life and the income that's at your disposal and the debt that you're trying to pay off. For a lot of people, the best, easiest, most effective way to invest is going to be in different tax advantage retirement accounts. Unless you have hundreds of thousands of dollars at your disposal and you're going to be doing some very complicated investing, investing slow and steady for the long term is likely going to be just the simplest and most effective route so you can have that

comfortable life later on. And you are in a line of work where retirement is typically done at a younger age. You mentioned retiring in your mid-50s and that you're a firefighter. And typically with pensions for careers like being a firefighter or police officer, normal retirement age is quite a bit younger than the typical retirement age we anticipate, like 67 or so, right? So when you retire in your mid-50s, do you want to have some sort of encore career? Or are you thinking that that's the point at which you would ideally like to stop working if you can? I believe I see myself retiring between 55 and 60 and then going a little bit further. I teach outside my

department now on kind of like a national conference circuit. I have my own company outside of that. And I would like to continue doing that for the rest of my career and being some sort of speaker on like a lecture circuit. So I envision myself maintaining some semblance of a work life. I'll be probably-time, once I fully retire from the fire department. So I would expect some trickle of income in addition to drawing upon my retirement funds after I truly leave the fire department. That's a really smart approach going into retirement because the reality for a lot of people is that retirement doesn't mean not working ever again. It's really great to have some other kind of stream of income to offset

what you might be able to get from your kind of stream of income to offset what you might be able to get from your pension and these other retirement accounts. So you have more flexibility to go on trips with your kids or with your wife. So you can actually enjoy those years and travel or do whatever you want to do. Like my dad says, he likes to just, you know, wants to work at a motorcycle shop just for something to do and make a couple extra bucks here and there. So. And so much of retirement is about pursuing your life purpose. And it seems like teaching is what gives you a lot of satisfaction. That's right, Sean. Okay, Adam. So we've talked about a bunch of different things that you can do with a windfall that might be coming your way. What are you currently thinking that you might

want to prioritize first? I definitely think paying off the high interest credit card debt, the last remaining balance of 25% is number one by far. I want to pay that off. There is no annual fee on that account. So once it's done, just leave it open for help my credit utilization and we're done with that. Put that in the drawer, say goodnight. And then after that, I'd like to make a large payment towards the 0% balance that we have, the 0% APR balance, just to get a big chunk of that paid off. A little bit for something fun, like we talked about, we want to live a little, we want to use money. And then maybe it's time to set aside another portion and open a new account for my youngest for his 529 and go from there. I would absolutely say my number one priority right now is paying off the high interest remaining balance.

Well, Adam, thank you for taking the time to talk with us. Thank you, Sean. Thank you, Sarah. We are back in a moment with more smart money. Stay with us. We're back and answering your money questions to help you make smarter financial decisions. This episode's question comes from Alex, who sent us a text message. Here it is. I have a question regarding loan payoff strategies. I am currently on a snowball payoff strategy starting with my higher interest car loan at 6.9%. But I also have loans at 3.9% and a mortgage at 2.8%. At what rate does it stop making sense to prepay

loans to become debt free and prioritize investing more? Thank you, Alex. Well, to help us answer Alex's question on this episode of the podcast, we're joined by Tiffany Curtis, a debt writer at NerdWallet. Welcome back to Smart Money, Tiffany. Thanks, Sean and Elizabeth. I'm happy to be here and I hope I can help. Oh, I know you will. All right. So let's dig into the topic, guys. Our listener mentioned that they're using the debt snowball method to pay off their debt. Can you start by describing what this is for us, Tiffany? Yes. So it's an approach to debt that focuses on paying off your smallest debt first.

And once that's paid off, you take the amount that you are putting on that one and you move it over to the next largest balance. And then you keep that pattern going. So with every debt that you pay off, the amount of money that you're putting towards your debt grows like a snowball rolling downhill and slowly getting bigger. Hence the snowball method. Okay, so what would this look like in Alex's case? So in Alex's case, for example, the debt snowball method will look like prioritizing putting more money towards whichever debt has the smallest balance first, which could be the loan with a 6.9% interest rate or the loan with a 3.9% interest rate while continuing to make the minimum monthly payment on the other debts. Remember, with debt

snowball, you're focused on the account balance and not the interest rate and then rolling that money to the next largest debt. Right. And the debt snowball method is often compared with the debt avalanche method, because we love our snow analogies in the debt payoff space, I suppose. So can you talk about how this one works? Sure, we do love a good snow analogy. I think that having a visual of your debt payoff, be it snowballs or something else, it can help make it a little easier to understand the method. So the debt avalanche is the opposite of the debt snowball method. Instead of focusing on paying off the smallest debt first, you tackle the debt with the highest interest rate first,

while making the minimum monthly payment on your other debt. And then you roll that money into the next highest interest debt, and then you keep it going. So with our listener Alex's debts, they would focus on paying off that 6.9% car loan, then the loan at 3.9%, and then the mortgage at 2.8%. And thinking about their question, I'm kind of wondering if they're actually doing the avalanche method instead of the snowball, because they can be kind of easy to mix up. All right, Tiffany, so how can someone determine which payoff method might be better for them? Well, first, I think it helps to figure out whether you'll be more motivated by small and quick wins, which you get with the debt snowball method, or if you're more of a patient and analytical person who can stick out the debt avalanche method, which may take longer.

So paying off your smallest debt first may give you the energy to stick out paying off your debt, while the debt avalanche method could lead to you growing weary, especially if your largest debt lot of people who are more mathematically minded perhaps may say avalanche is always the best because it can save you money depending on how your debts are structured. personally, because I think that psychologically, people paying off debt and getting the benefit of closing out an account can keep people going over the long run, because debt payoff can be quite a slog. But like you said, Tiffany, it really all depends on your own personal circumstances, how you are mentally and your financial goals. Definitely. So Sean and Elizabeth, our listener is wondering about when it makes sense to focus on investing instead of paying off debt. What do you guys think about that? While we are not financial or investment advisors and don't give personalized financial advice, I do like to multitask if possible. And that can mean both investing and paying off debt at the same time. And our listener asked about at what rate it makes sense to focus on investing

instead of paying off debt. I would say our listener may have at what rate it makes sense to focus on investing instead of paying off debt. I would say our listener may have pretty affordable debt. Their car loan is a little pricey at around 7%, but their mortgage is at 2.8%. I'm guessing they got that in the early days of the pandemic. And their other loan, which I didn't specify the nature of, is at 3.8%. All in all, that is pretty reasonable, especially compared with credit card debt, which can have an APR well over 20% right now. For sure. I think that is reasonable, Sean. And it can if you're like me and debt is like an itch in your foot,

just want to get rid of it. But sometimes you really have to do the math and think about what makes more sense. So on that note, you can compare that with investing in the stock market. Some people have historically been able to get around, let's say, 10% returns over time, which is pretty decent. So you can get a greater return by investing than by paying off your debt. If you factor in inflation, which erodes the value of your money, and investing can seem like an even better deal. Right. So a question that our listener can ask themselves is, where can I get the better return on my money? Paying off a credit card with an interest rate north of 20% is likely going to give you a better return than investing in the stock market. But returns aren't the only thing to consider. You do have to think about your own individual circumstances, financial goals, and if having debt is a horrible itch in your foot that you just want to get rid of.

That's something to think about too. But I will say this is a really common question among listeners and it's something that many nerds deal with too. So Tiffany and Elizabeth, I'd love to hear how you personally approach the balance of debt payoff and investing in your own life, if at all. I hope people are not going to throw tomatoes at me because I actually don't have much debt, thankfully. I'm going to throw roses to you. Congratulations.

Oh, thank you. Thank you. Thank you. But you know, I am lucky not to have much debt aside from my car loan, which is more than halfway paid off. And the interest rate is honestly relatively low. But at one point, as I said, debt is like an itch in my foot. I was like, maybe I should just take chunks of cash and pay it all. But since the interest rate is relatively low, I decided the money would have better use in an investing account, compounding, saving for my retirement. Every so often when I can, I do make extra payments. And luckily, because I went to college in London and the cost of higher education over a decade ago was extremely affordable. I don't have any student loan debt. So I will add that there are times I have to change the amount of money I am investing and prioritize other goals,

even though it's not necessarily debt. But when nothing is on fire in my finances, I put large amounts of money towards investing. So personally, I have a mortgage, a car loan and student loans. I was lucky to get my mortgage and my car loan back in 2020 when rates were super low. So the loans are basically free money and I'm not in a huge rush to pay those off. And with my student loans at this point, I resent that I have to pay them at all. So I don't want to give them any more money than I have to. And as I pay off all of my debts, I am contributing as much as I can to my 401k. And I make monthly deposits into my robo-advisor account so I can get that sweet dollar cost averaging.

So right now in general, I'm more focused on investing than debt payoff because it will give me that better return long-term for my money in all likelihood, hopefully if the stock market does what I want it to. Sean, what's the robo-advisor account? Asking for myself and also for listeners who may be unfamiliar with that. Thank you for the jargon check, Tiffany. I'm so steeped in this world. Sometimes I forget that not everyone knows everything I'm talking about. A robo-advisor

is just a type of investment account where algorithms manage the investments for you. It makes investing really easy and inexpensive. Okay, thank you for clearing that up for us. Happy to help. Truthfully, I'm still very new to investing, and I don't have any investments beyond a retirement account. I think that with these economic times where it's getting harder for many people to cover their living costs, I'm of the mindset of keeping as much liquid cash as possible. I'm focused more right now on building up my emergency savings account than investing. But if I hit a point where I feel like I can comfortably part with more money, then I'll be willing to risk investing and maybe that'll change.

That makes sense. I think a lot of people are in a similar situation to you right now. So totally understandable. All right. Well, Tiffany, thank you so much for joining us today. Thank you for having me. And for everyone who was scratching their head, like, what should I pay down first? I hope you have the answer now. That's all we have for this episode. Remember, we are here for you. And we want to hear your real world questions because we're here to make you smarter about your money decisions. So turn to the nerds and call or text us your questions at 901-730-6373. That's 901-730-NERD. You can also email us at podcast at nerdwallet.com.

And lastly, visit nerdwallet.com slash podcast for more information on this particular episode. And remember to follow, rate, and review us wherever you are getting this podcast. And here's our brief disclaimer. We are not financial or investment advisors. This nerdy info is provided for general educational and entertainment purposes and may not apply to your specific circumstances. And with that said, until next time, turn to the nerds.