Prioritizing retirement savings against paying down student loans is a very common money management question for young workers today. This wasn’t the case in prior generations where college graduates start their first job with less student loans and were offered pension as part of their benefits package.
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When I started out, I worked as a contract worker so there wasn’t a retirement savings plan aside from the $2,000 contribution to my IRA. As such, it was an easy decision for me. I focused all my energy on paying down debt — my student loans, car loan, and credit card debt were gone in less than a year. It would be a lot different if I just graduated recently and work full-time somewhere. I would have to decide where to put my money: (A) 401k with $15,500 limit, (2) IRA with $5,000 limit, or (3) student loans and other debt.
Student loans usually have lower interest rates, and you could take advantage of student loans consolidation program to make the loan repayment more advantageous for you. However, if you owe other types of debt — specifically, credit card debt — I would personally do everything I could to exterminate them first.
Here’s a 7 steps debt reduction technique that you could use.
If all you have is your student loans, the answer might be to put your money toward retirement savings first. Particularly, if your employer provides 401k match, you should try to contribute enough money to your 401k to maximize the matching contribution. Depending on the set up, we are talking about 50-100% instant return on investment.
There’s a huge advantage in starting your retirement savings as early as possible — your savings could be nearly 3 times more by starting at 25 versus at 35 (see the illustration below):
While you are putting money away toward retirement, just keep paying the minimum required amount on your student loans and be sure not to accumulate any new debt.
Aside from the two exceptions above, the answer is really all about math. If the interest rates on your student loans are high relative to the expected rate of return on your investment, paying the loans off as fast as possible might be your best bet. Remember that you can also deduct up to $2,500 in student loan interest even if you don’t itemize deductions on your income tax return. So be sure to factor this into your calculation.
However, if your interest rates are low, it might be better to get the ball rolling on your retirement investing. Again, I feel very strongly about starting your retirement investing as soon as possible.
In the end, there are a lot of factors at play and you’ll have to decide both mathematically and psychologically the right thing for you to do. To explore this subject further, here are a few articles written by other bloggers: