Deciding whether to pay off debt or save money first is one of the most common financial questions people face. Maybe you’re trying to chip away at credit card balances or personal loans, but you also want the peace of mind that comes with a growing savings account. Read on for a step-by-step approach to help you figure out which strategy makes the most sense for you.
1. Assess your financial situation
Before you can decide whether it makes more sense for you to first save or pay off your debt, it helps to know exactly where you stand. You can create a quick overview of your finances by writing down what you own (for example, the money in your checking or savings account) as well as what you owe (such as credit card debt or car payments). When you subtract what you owe from what you own, you’ll have a clearer picture of your financial situation.
2. Make a budget
The next step is to consider all your income and expenses. Write down what you earn each month and what you typically spend on groceries, rent, and other bills. Make sure to add any regular debt payments to your list of expenses.
If your expenses are higher than your income, then you won’t be able to either pay off debt or save money. In this case, your next step is simply to focus on reducing your expenses. If you do have money left over each month, then it's time to decide what to do with it.
3. Choose what’s right for you
Both paying off debt and saving money have benefits. Deciding which one is right to start with depends on your individual situation:
Deciding to pay off debts first
If most of your debt has high interest rates, paying it off first is usually the smartest move. This way, you’ll stop losing money to interest and free up cash for the future.
Pros:
- Saves money on interest in the long run
- Improves your credit score (by lowering credit utilization)
- Frees up cash flow once a debt is paid off
- Brings peace of mind from reducing what you owe
Cons:
- Leaves little cash for unexpected expenses
- Missed savings opportunities (such as employer match on retirement contributions)
- Harder to handle emergencies without borrowing again
- Slower to build savings momentum
Deciding to save money first
If you’re more concerned about unexpected expenses or losing your job, focusing on saving first can help give you a little breathing room.
Pros:
- Creates an emergency fund for unexpected costs
- Prepares for possible income gaps
- Reduces reliance on borrowing in the future
- Builds a savings habit that supports long-term goals
Cons:
- You’ll usually pay more interest on existing debts over time
- Your debt will continue to grow
- Takes longer to reach financial freedom
- It's tempting to dip into new savings
4. After deciding what to pay first
Once you’ve compared the pros and cons and made your decision, it’s time for action.
If you decided to pay off debt first
Now you can choose which technique you want to use to pay off your debts: debt avalanche or debt snowball. If you’re managing several balances, exploring debt consolidation options can help you decide whether combining debts into one payment makes repayment easier.
- Debt avalanche: This method saves you the most money over time. It focuses on paying off the debt with the highest interest first.
- Debt snowball: This method gives you quick wins and is great for staying motivated. It focuses on paying off the smallest balance first and reducing your total number of different debts.
With either technique, you continue paying the minimum balance on all your debts. However, any extra money you have leftover goes to paying either the highest interest debt or the smallest debt.
If you decided to save money first
Now you can choose where (and how much) you want to save. It’s a good idea to place your savings in a separate account so that you’re less tempted to use them for other expenses.
If you’re more interested in creating a small emergency fund, then a savings account is a popular option. You can always explore how to get a personal loan if an unexpected cost comes up before you’ve saved enough.
On the other hand, if you’re thinking longer-term and want to take advantage of savings opportunities, then you may want to enroll in an employer-sponsored savings plan such as a 401(k), especially if your employer matches your contributions.
The bottom line
Whether paying off debts or saving money, both options can lead to financial freedom. Try to take it one step at a time and remember to revisit your finances regularly to ensure you can achieve your long-term financial goals.
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