Is being Debt-Free the Best Decision?

by Erika Torres

After paying off $12,000+ toward student loans in a single day, Eric and I found ourselves just $6,600 shy of being completely debt-free.

Paying off the student loans pretty much wiped our house down payment savings ainvestccount, but we still think it was the best decision. Since making that bulk payment six weeks ago, we’ve managed to bring back our house down payment fund to $3,000+. Hopefully, we’ll be able to recuperate it back to $10k by the end of the year.

I said at the end of that post, that we’d most likely be debt free by the end of the year. But now I’m wondering: Is being debt-free the best decision?

The $6,600 that we owe, is broken down into a $1,100 student loan for me, and a $5,500 student loan for Eric. Both loans are interest-free. My loan is a $52 monthly payment. Eric’s loan won’t have payments due until December 2014, assuming he remains in school.

We’re currently trying to save up as much as possible for a house down payment and also a new (to us) car. Those are big ticket money items where having a chunk of savings would come in handy.

Also, our money can continue to earn interest (albeit a small amount of interest) in the banks, rather than going toward debt.

On the other hand, the allure of being debt-free is so enticing.

I could keep using the side hustle income to pay off debt, rather than going toward a new car savings account. Or I could continue to save for the things I know we will need either next year or the year after.

Which would you choose? Pay off 0% interest debt? Or save?



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Leo Ostapiv September 23, 2013 - 10:37 am

To be honest, I have no clear opinion whether it’s a right choice to repay the student loan as early as possible.
Dave Ramsey advocates for being totally debt-free, but there are many bloggers, who point out investment opportunities instead of fast repayment of low-interest debt.

Elena @ Hilarious jokes August 22, 2013 - 12:40 pm

I truly believe that there is nothing better than being debt free. I know that your loans were interest-free, but it’s always better not to have a loan to pay off every month at all.
It gives you a piece of mind and makes you more financially secure. When you get rid of student loans, you can focus more on saving for a house down payment etc.
Once you bought a house, it will be quite difficult to save money for anything or pay off stuff when you have a mortgage payment, maintenance, taxes, bills etc. Great decision guys!

Alexis Marlons August 13, 2013 - 11:16 pm

I’d rather choose to be debt-free. Though those are interest-free, those are still debts that you have to pay. It is hard to stay on the budget when you have debts to handle.

Nichole C August 13, 2013 - 5:23 pm

My husband and I are in a very similar situation; the amount of debt we have left is almost exactly what we have in our savings account. We were planning to take that savings and start house hunting, but our rent is only being increased by $29 and we can keep saving…so we go back and forth between increasing our savings OR paying off the debt. So really, I have no answer, lol. But can definitely relate!

Nairobi August 9, 2013 - 9:23 pm

Being debt free is a major boost. in energy that I feel everyday. Interestingly, when you are debt free and on a budget, you tend to feel broke despite of having, say, 30-40k in the cash account.

I am still debating if I should buy a brand new car cash or finance half of it, since I have 9 month emergency anyway. I have about 40K in cash, of which 21, 000K is emergency fund for 6 months. Should I take about 20K and buy a new used Odyssey van cash, since we are getting a 3rd baby in Dec. or should I finance it?

I am currently renting, and would have used that money towards a downpayment of a house-target 60-70K. Should I buy the van cash and start all over towards house payment or finance it and contribute incrementally towards the house while financing?

What do you all think?

Aja August 9, 2013 - 6:25 pm

Such a timely post. I’m struggling with the same issue right now. For me, I’m choosing to save rather than pay off the loan. Not sure if it is the best decision, but my monthly loan payments are low enough that having the additional cushion, especially with a family with children, I feel like I’ll benefit more from having the emergency money in the bank than having the extra $100 a month from the loan. But I’m sure the decision depends so much on your personal situation that there isn’t just one answer for it.

Dear Debt August 7, 2013 - 4:12 pm

I’d pay off the student loans, but that’s just me. The main thing I hate about my debt is the interest, so maybe I’d feel differently if it was 0%.

Michael | The Student Loan Sherpa August 5, 2013 - 5:40 pm

It doesn’t make sense to be in any rush to pay off 0% debt. The money can be used to earn more money in other locations.

How did you score a 0% student loan?

Holly@ClubThrifty July 31, 2013 - 5:06 am

I absolutely hate debt so I would be tempted to pay it off. We have paid off many low interest rate debts including my husbands student loans that were only at 2.75%. Being debt free is a huge psychological boost and having debt around just drags you down.

With that being said, I would probably take my time with any loans at 0% interest unless I just wanted to get them out of the way.

Miss Entrepreneurette July 30, 2013 - 11:06 pm

I guess it would depend on how badly I needed a car and how stable I felt about my income. If I was afraid that something might happen to our income in the future, I would pay the debt down. If I was in dire need of a new car, I’d put the money towards that.

Done by Forty July 30, 2013 - 3:50 pm

Given the interest rates in the two options you’re considering (0% debt vs. less than 1% interest in a savings account), this is one of those weird financial decisions where what you want is likely way more important than the choice’s effect on the bottom line. If you were going to invest the money in the market, the math would clearly point to investing rather than paying off 0% debt. But if you’re just going to earn a few sheckels in a savings account, the benefit is so small that it shouldn’t really impact the decision too much.

If it were me I’d choose to pay the debt. There is some evidence that debt causes psychological stress, so the juice may be worth the squeeze…

Anne @ Unique Gifter July 30, 2013 - 11:38 am

I think that you need to strike a balance between getting the maximum return on your money and having the highest credit rating possible for your mortgage.
If you were to pay off your loan today, would you redirect the entirety of the $52 to your savings? If not, I’d keep the loan, otherwise, I’d pay that one off, free up the cash flow and leave Eric’s until 2014 when it needs to be paid. Free cash flow is a wonderful thing that can get you out of a lot of binds. That said, 0% is a fantastic rate that you’re going to easily beat by saving or paying off pretty much anything else. So, in that case it would be down to what the bank thinks of your debts.

Emily @ evolvingPF July 29, 2013 - 5:40 pm

We chose to keep our 0% interest debt and invest our savings. But we don’t think of it as savings that could possibly be used for anything other than paying the debt (i.e. not toward a house or anything else). It’s a bit risky but we’re hoping to come out with a small return that CAN go toward those goals.

shanendoah@the dog ate my wallet July 29, 2013 - 12:02 pm

I would suggest setting yourself a threshold. C and I have a ton of things we want to do. Last year, we bought a new to us car (in cash) and still paid off my graduate student loans and then decided to refinance the house, even though we had to buy our equity up by nearly $20k to do so. We were able to do this because of an inheritance, saving our own money, and having a threshold.

In our case, we make our minimums and save toward our goal. Last summer, we bought our car and then went right back to saving at our regular rate. Come winter, we looked at our savings and said- we have $10k more in savings than we owe on the graduate student loans. We did not feel like we were close to another major purpose, so chose to pay off the loans, leaving us with the $10k cushion.
And then we went back to saving, this time at a slightly higher rate, as paying off my loans freed up $550/month. January came and we decided we really needed to refinance the house. (We were at a 6% apr.) We hadn’t been saving up for this, but because we left ourselves the $10k cushion, we had the money we needed to buy up our equity when the house appraised at $40k less than we bought it for. We then went back to saving, once again at a higher rate, as that freed up $400/month (actually $600, but we’re paying an extra $200/month on the mortgage to keep us on the same payoff timeline we were on before the refi.)

Now, we’re saving for a down payment on a second house (goal is to keep the current one as a rental), but we still have that $10k threshold. If we get to the point that we have $10k more in savings than we owe on my undergraduate loans, and we look at the timeline and say “we’re not moving in the next 3-4 months”, then we will use the money to pay off those loans.

So that’s my advice- figure out what your threshold is based on your financial comfort and timeline, and if you reach that, pay off the student loans and be debt free. But until then, keep paying the minimums and use the money you are saving for what you are saving it for.

Ceci Bean July 29, 2013 - 9:59 am

You always ask interesting questions.

I am about to purchase a car myself and I stopped by the bank to get some information about a loan. The thing is, I have the cash to buy outright, but the banker pointed out that if I get a loan (and loan rates are very low now), I could make more profit on that same money I would have spend on the car by investing than I would spend on the interest. That kind of makes sense right? That’s a whole level of financial responsibility I haven’t learned enough about yet. That leaving a pile of cash in a low-interest savings account is a waste.

But, the banker also pointed out that if not owing money gives me peace of mind, that might still be the better choice even if it doesn’t make the most financial sense. Decisions, decisions!

Mrs PoP @ Planting Our Pennies July 29, 2013 - 9:37 am

I think 0% debt is generally worth keeping on hand, but it can be tempting to “double count” money in the savings account in that situation, too. If you get $6K in savings set aside to pay off the loan when the rate climbs, just be sure it’s a different pile of money than what you consider your emergency fund. A lot of people don’t make that distinction and when the loan rates rise and they pay it they have no efund left even though the loans weren’t an emergency.

Emma July 29, 2013 - 9:28 am

I don’t bother paying down my student loan, since it’s the lowest interest thing I have. I’m currently trying to tackle my credit card debt, which is of course much higher. I’m not sure I’ll throw the extra money at the student loan when I’m done – I may let myself enjoy the cushion for a bit. And I too am also saving for a house down payment. I haven’t used any of that money to pay off my debt – I’m forcing myself to both be saving and paying down the debt at the same time.

Michelle July 29, 2013 - 8:25 am

If it’s at 0%, I would keep the debt and save the money instead.

Catherine August 2, 2013 - 6:57 pm

I think I agree with Michelle. Though I would likely pay your debt off and hold off on your husbands until 2014, redirect the monies to car/house fund.

Tanner July 29, 2013 - 8:18 am

Since you present a 0% interest debt… I would almost yield to paying the minimums until before they start accruing interest, and favor the house/car payment. All of my loans bear interest (lowest one being 2.15%), so I’ve done the math and I still come ahead paying it all ASAP vs saving and then paying, or even saving all and pay as agreed.

How about a compromise? Keep paying the $54 and put the rest that you would be paying into a separate savings account. When you have enough in that account (probably well before they become interest-bearing), take another look and decide if it’s worth it to pay it all, or to keep making interest off it, as small as it may be. Life happens and changes, so perhaps you find the perfect place or perfect car before you were planning to, and all that money can be used for that, while new plans work on getting rid of the student loan before it becomes interest-bearing. That’s what I would do if mine were 0%. I pay in bulks now to save pennies of interest over time, but don’t let the title (“debt free”) take away other bigger opportunities.

Rob July 29, 2013 - 8:05 am

I would hold the debt. Since your debt to income ratio will be in your favor, this small amount of debt won’t affect your loan in the least. Also, since it’s 0%, you could leave it in a bank account and let interest work for you instead of against you..

I just finished moving into my new house, and I’ve already plopped down about $2500 in appliances and other stuff, so having a little extra cash on hand (even with a little debt) will be helpful later too.

Lizzi B. July 29, 2013 - 7:55 am

What a perdicament! I’m in the same scenario… to pay or not to pay? I just purchased my first home and having a $16K student loan hinged upon how much of a home loan I qualified for. Damn debt-to-income ratio! At first this bugged me, but I looked at how much house I wanted and realized I wouldn’t need that much money anyway. So, I guess look at that first… how much do you want to pay each month for your mortgage, tax, etc.? Realistically, how much of a house would be comfortable for you and your hubby?

My approach to purchasing my home was to save as much money as I could, figure out how much I wanted to spend on a home, how much of a budget I had for renovations, and if I had money left over, pay down my student loans. These were my only debts before purchasing a home and I don’t regret my decision at all. I did factor in the student loans when I was determining how much of a house I wanted to buy. So, no matter what, if I was unable to pay them down, I could still afford everything.

I definitely agree of the allure in being more debt-free. I have enough money left over to pay off one of my student loans but I’m having a hard time figuring out if this should be put into my emergency fund or not. We’ll see how it goes! Can’t wait to hear what you decide!

BTW, you’re so lucky you are not paying any interest! =)

Alice @ Earning My Two Cents July 29, 2013 - 7:24 am

Wow! 0% student loans? Is that a family loan or did you actually find a company willing to lend at that rate? My husband and I will probably need to take out more student loans for his school this fall so if that’s a company I would love to know which one!

Personally, I don’t like knowing that I owe money to someone and that monthly payment is still a line item in my budget that I would love to pay off and be rid of. I have lots of money that I owe my folks at 0% interest and they don’t hold it over me or anything, but I am still trying to be responsible and pay my debts, however slowly. It’s the principle of it for me.

Budget and the Beach July 29, 2013 - 7:06 am

If the amount of interest you are earning exceeds the amount of interest you are paying (which a 0% interest is obviously is) then I’d keep money in savings earning interest but make sure you are prepared to pay off the debt when the interest is no longer 0. It’s good to make money work for you, even though the title of “debt-free” is enticing.

Jordann @ My Alternate Life July 29, 2013 - 6:04 am

I’m definitely a “one goal at a time” kinda girl. For that reason, I say, pay it off. Check that item off your list once and for all, and then focus on building up your savings. It’ll be worth it to finally have that weight off your shoulders!

kelly July 29, 2013 - 5:04 am

Even 0% interest is still a payment and something you need to pay. So I would pay it off…one less thing to pay off and one less item in your budget.

Then, look at how fast you already saved up again–way to go! You can take those extra payments and apply them to your house fund–without having to worry about your student loans ever again! Woot!

thestarvingartistcanada July 29, 2013 - 4:37 am

Don’t forget though, mortgages are debt.

They type of debt is only a mental construct. Debt is debt. It doesn’t matter to whom it is owed.

That said, you’ll get a way better rate on a mortgage than mostly anything else. Why not buy a home, get a HELC, and then use that to pay off your student loans? Unless of course the rate is worse.

Lastly, when inflation once again starts to show it’s ugly teeth, don’t be in a hurry to pay down your mortgage! The longer you wait, the “less” you have to pay. It’s an odd consideration for most to fathom… Yes, you have to pay more interest, (and more dollars) but the value of those dollars is being deflated.


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