Using Savings to Pay Down Debt

Every Sunday, I send you something to THINK about, a question to ASK yourself, something to TRY and invite you to SHARE.

Want to advertise in this Newsletter?

Book HERE

THINK

“Spending money to show people how much money you have is the fastest way to have less money.”
Morgan Housel

I’ve organised two “Hangout with Huw” video calls in the last couple of weeks.

They’ve been amazing! What a great bunch of people you are!

Yes, YOU.

You’ve been so kind and supportive to me and each other. I can see the makings of a wonderful community coming together.

One common question kept popping up in the two calls.

Q. Should I use some or all of your savings to pay down debt?

In today’s Newsletter, I’m going to tackle this question head-on in detail so you know with 100% certainty what to do.

If you have debt AND savings, this post is for you!

Let’s do this.

Why You Haven’t Used Your Savings Already

It’s easy for me to write debt guides and publish YouTube videos on how to pay down debt when I’m no longer in debt.

It’s another thing when you’re the person saddled with the responsibility and emotionally invested.

Paying down debt with savings feels like losing security.

How will the reduction or elimination of a cash pile make you feel any better?

You have less resources. Less choices.

The answer is in what’s being ignored.

The reduction of cash savings is exchanged for the reduction of debt.

This transfer of cash won’t alter your Net Worth, and it will diminish your resources.

But it will increase your disposable income.

And next month, with lower or no debt repayments, you WILL increase your Net Worth.

Personal Finance in a nutshell:

Decreasing unconscious spending
Increasing income
Invest the difference

1 and 2 contribute to increasing your disposable income, which allows you to do 3. Moving you towards Financial Freedom.

Staying in debt any longer than required:

Puts a cap on your disposable income and Net Worth
Is allowing compound interest to work against you not for you.
Reduces the time to benefit from compound interest.

1 and 2 result in 3. Put another way…

Staying in debt pulls you away from freedom.

It’s time to let go of the rope, turn around, and move towards freedom.

When it’s NOT Worth Paying Down Debt

Before you pull the trigger and utilise all of your savings to eliminate debt, there are 3 circumstances where is DOESN’T benefit you to pay it off.

1. Low-Interest Debt

I have a rule of thumb to determine the difference between high and low-interest debt.

High-interest Debt is higher than the interest rate available on an easy-access savings account.

At the time of writing, in the UK, it’s around 5%.

Therefore, if the interest on your debt is below 5%, it’s classed as low-interest and NOT worth paying off.

WHY?

If you keep the money in savings, it will earn more interest.

2. Emergency Fund

The generic advice is to ensure you have 3-6 months of living expenses in an easily accessible account for an emergency.

I agree.

But if you have high-interest debt, that peace of mind is coming at a cost.

I recommend keeping £2,000 in cash savings for emergencies and using whatever’s left to pay down high-interest debt.

This should cover you for most unexpected life events for now.

Once you become debt-free, you can build your Emergency Fund up to 3-6 months of living expenses.

3. Upskilling

This reason is more subjective.

The more debt you have, the more this is worth considering.

Upskilling is investing in YOU. This might be taking an online course, coaching, buying tools/equipment, etc. all in an attempt to make more money.

The savings made from debt repayments (10-30%) cannot compete with the potential returns made from business (50%-10,000%).

Don’t use it as an excuse to avoid debt overpayments.

Use it as an investment to increase disposable income, which can lead to larger debt repayments.

How Much Savings To Use?

Keep at least £2,000 in savings as an Emergency Fund.

Use the rest to ELIMINATE IT.

Simple.

For example, if you have £5,000 in savings:

£3,000 – Use to pay down debt
£2,000 – Keep in savings for emergencies

Common Objections:

“I was thinking of investing in Stocks instead.”

Whilst I love the intention to grow wealth, investing in stocks is likely to yield around 8-10% a year on average.

The ‘on average’ part is key…

Year 1: 20% gain
Year 2: -10% Loss
- Annualised average returns = 10%

Investment returns aren’t guaranteed, whilst debt repayments are.

Take the guaranteed returns of overpaying debt, and use the additional disposable income to invest with once you’re debt free.

“My savings are in Premium bonds and I could win a £1,000,000.”

Whilst it’s “possible” to win £1 million, it’s also “possible” you’ll win nothing (and more likely).

Two people win £1 million a month in the UK on Premium Bonds, and the average return is 4.4%.

It seems reasonable… but you won’t earn that even with average luck.

The ‘mean’ average of 4.4%, suggests that for every £100 invested into Premium Bonds, on average £4.40 a year is paid out. But that’s not possible, as the smallest prize is £25.

If 20 people each had £100 invested for a year, for one to win £25 (1 x 25% ROI), the remaining 19 would have to win nothing (0% ROI).

The ‘median’ average of this example is £0/0%.

There is always the possibility of winning, but the probability is lower than an easy-access savings account, so for the vast majority of people, they aren’t worth it.

“I like to have money in savings, just in case.”

Psychological comfort is important, but the financial strain of high-interest debt can outweigh the comfort of having savings.

If the £2,000 Emergency Fund isn’t enough for you, then save up to 3 months of living expenses and overpay with the rest. 3 months is more than sufficient for most families starting out.

I would argue you’re overestimating your need for comfort and underestimating the destructive power of debt.

“I’m worried to use my savings in case I lose my job.”

If your employment is under threat, it’s sensible to keep some money aside to pay for bills if the worst happens.

Job security is a valid concern.

But high-interest debt will only exacerbate your financial stress.

Find the right balance between savings and debt repayments to minimise your liabilities whilst being able to sleep at night.

It hasn’t got to be all or nothing.

Parting Debt Thoughts

Debt sucks!

I know because I had over £15,000 in personal debt at one stage.

The common problem I see is…

Most people are too comfortable with debt and too uncomfortable with change.

They’re in an emergency, and they don’t realise!

They’re choosing to live above their means now (spending more than they earn) but are oblivious to the fact that they’ll have to live below their means (spending less than they earn) in the future.

EVERY DAY you’re in debt is a day further away from Financial Freedom. Give ‘future you’ a break.

Eliminate debt so you can start investing. Get compound interest to start working for you, not against you.

Most people can eliminate personal debt in 18 months.

Don’t be in debt any longer than you need to be. Life is so much better when you’re on the other side.

Work hard for 18 months, change your life and enjoy the rest of it.

Clear that debt, once and for all, and start working towards Freedom.

Are you in Debt?

If you’re in debt, check out the two posts I created on ‘Destroying Debt’ (Part 1 and Part 2). I recommend reading them in order.

Or watch my recent YouTube video, ‘The Fastest Way to Destroy Debt (58 Tips)’.

If you work through the tips, I GUARANTEE it’ll help!

Reflect and share this with someone.

ASK

“How much do you need as an Emergency Fund to give you peace of mind?”

“How much is left over in your savings?”

“What’s stopping you from paying down your debt early with the rest of it?”

Write down what comes to mind.

TRY

Have you become too comfortable with high-interest debt?

Are you ready to eliminate it?

The process is super-simple:

1. Put money aside for an Emergency

Save up to £2,000 in savings for emergencies, and use whatever’s left to pay down high-interest debt.
Once you become debt-free, you can build your Emergency Fund up to 3-6 months of living expenses.

2. Use the rest to ELIMINATE IT

Whatever’s left over after saving £2,000 for emergencies, use it to pay down debt.
It will feel ‘risky’ because you have less cash in savings.
But you make up for that by increasing your disposable income.
Remember: Having debt moves you away from Freedom.

HIT REPLY and let me know if you struggle with debt. Share your numbers with me and I’ll share my thoughts with you.

I read and reply to every email, and remember, I’m rooting for you!

Remember: Little by little, a little becomes a lot.

Reply to this email and share how it went for you. Let me know if you’d prefer to remain anonymous.