Should you start paying off debt first or building wealth (investing) instead?
Many would say that you need to pay off debts first before actually building wealth. As for me, I’d say that there is no straightforward answer. It all depends on your situation. In fact, what I did was start building wealth by investing in the stock market while paying off debts at the same time.
I’m sure that financial advisors reading this are scratching their heads by now. But let me explain why I did that.
Time is no longer on my side
As mentioned in my previous blog posts, I started late when it comes to building wealth. In order to maximize potential gains when trying to build wealth, you need to invest in the stock market as soon as you can.
So I’m actually at the stage wherein naghahabol na ako.
Incurred too much debt
My debts were too great that if I clear them first, it’s going to take me years to do it. This will further delay my investment journey.
The average return of the PSEI is 7.82% while it’s 10% for the US stock market. This means kung patatagalin ko pa ang pagstart, I’ll miss out on those returns.
Low income
I was only earning around 25K (net) when I started my personal finance journey. This makes it difficult for me to clear out all my debts before I could start investing.
Personal Misgivings
If I had a chance to do it again, I would have saved up for emergency funds while clearing out debts rather than jumping into investing in the stock market right away.
I’ve always been confident about not losing my job and that the only time I’ll be out of work is if I decide to resign and not immediately look for a new one. Having a stable income has never been an issue for me, so I never thought of saving up for emergency funds.
Kahit nga nung lumipat ako sa current company ko with a starting salary of more than 1.5X of my previous income, di pa rin ako nagsave for emergency funds.
Alas, the lockdown in 2020 gave me a bitter experience. Although we were all able to keep our jobs, the company had to cut our salaries down by 50% since we were not actually working at that time but still getting paid. However, due to my outstanding credit card debts (which were not yet restructured), I had to sell some of my stocks at a loss in order to keep up with payments.
Kung meron lang sana akong emergency funds, I wouldn’t have to sell yung stocks na pinaghirapan kong bilhin nung maliit pa sahod ko.
Things to consider
When deciding whether to start paying off debt or building wealth, the following factors should be considered:
Interest rates
The interest rate on debts, such as credit card debt, should be compared to the potential return on investments.
Kung mas mataas ang potential return pag ininvest mo yung pera mo kesa gamitin mong pambayad agad, consider investing. Else, clear mo muna yung utang.
For ballooned credit card debt, it’s best to clear it as soon as you can or restructure it. I’ll have a separate post regarding credit card debt restructuring.
Debt type
Different types of debts, such as secured vs unsecured debts, may have different priorities for repayment.
Ano’ng klaseng utang ba yan? Kung personal utang yan sa kaibigan or kamag-anak, unahin mo muna yan. Mahiya ka naman kung i-flex mo na may stocks ka tapos may utang ka pang di mo nababayaran sa kakilala mo.
Kung loan naman yan (housing or car loan), expect na di mo kayang i-clear agad yan. So ok lang na yung monthly amortization lang ang bayaran mo. Pero ang gawin mo kapag may bonuses ka (13 month pay, performance bonus) is pay to principal. Liliit ang principal loan amount mo which will then reduce the interest.
Emergency fund
It is important to have an emergency fund in place to cover unexpected expenses before making investments.
If you haven’t done it yet, you might want to read my post about Emergency Fund.
Time horizon
The amount of time until the debt is due and the individual’s investment time horizon should be considered.
If you’re still young, clearing out debts should be your priority since you have a longer time horizon to build wealth. Pero pag medyo Tito/Tita age ka na, you’ll need to balance it out.
Personal goals
An individual’s personal financial goals, such as retirement planning, should be taken into account when making the decision.
If you want to retire early, then you need to start investing at an early age.
Reminder
Please take my suggestions with a grain of salt. The right option for you will still depend on your actual situation, current income, expenses, and goals.