What comes first, investing or reducing debt?
One of the most common investor’s dilemmas is whether to use excess cash to pay down debts or to invest it in hopes of making more money. If you put too much money into debt reduction, you will reduce your leverage. In the same time, if you are more aggressive than you should, you may lose all of it. It is understandable why investors and potential investor have such a hard time deciding what to do. Here is what you need to consider before you make up your dilemma:
Different options for investing
If you look at things through the numbers and do your math, you should base your decision on your after tax cost of borrowing against your after tax return on investing. With investments that includes both fixed and equities income, your after tax return on the invested money is bigger than your after tax cost of the debt. It all depends on your specific situation.
Being able to tolerate risk
Determine your risk with consideration of your age, income, earning power, time frame and tax situation, as well as any other criteria that is specific to you.
If you are young, you will have more time to get back money you might lose. With high disposable income in regards to your lifestyle, you have higher tolerance risk and have the option to invest more aggressively rather than paying your debt. If you have health concerns you better chose to invest rather dealing with your debt. Another important aspect of risk tolerance is your ability to assume risk. Aggressive investors will probably rather invest rather than pay debt and risk – averse investors will be using the cash flow to pay down debts.
Know your finances
Before investing or reducing debt, build up a cash cushion first, to be able to avoid most of the damage if unexpected events take place. Pay credit card debts since they usually carry higher interest rate than most investments will earn on taxes.
Mortgage debt can be a good thing when combined with a good credit score. If that is the case, the after tax return on investments can be higher than the after tax cost on your mortgage. For a self employed person having cash makes all the difference about being able to stay in business or not.
Knowing if you should pay down debt or invest depends on many things, not just on your economics and your personal financial situation. Set reasonable and realistic financial goals and keep your perspective and focus when assessing your options for investing, risk tolerance and your cash flow.
Make some money while getting out of debt
This is an ideal solution, to get more money while paying off your debt. If you want to get out of your debt, get a mortgage and still be able to save for your retirement, try to find a good combination of investing in property while acting upon a good game play on getting out of debt.