Savings plan step 2: Pay off credit card debt

America Saves Week was February 20 to 27, 2011 and even though I am late to the party, it’s never too late to talk about the importance of saving.

Many people who struggle financially are reluctant to talk about saving since they have more pressing priorities, such as repaying credit card debt. However, eliminating the topic of saving entirely can be detrimental to your future financial security. Experts agree that becoming a successful saver can be dependent on developing good savings habits. So, instead of putting the topic of savings on the back-burner, try to reframe the way you think about debt repayment. In other words, make removing the barrier of credit card debt Step 2 of your savings plan, right after you establish an emergency savings fund.

One of the ways America Saves encourages consumers to make progress on their savings goal is to reduce debt. In fact, about one in six people enrolled with America Saves chose ‘paying off consumer debts’ as their wealth-building goal. If you are wondering how paying off debt can be considered savings, consider this example.

Say you have $100 per month. Your choices are to (A) put the money toward paying of a credit card with the current average interest rate of 15% or (B) invest the money in balanced stocks and bonds with an expected rate of return of 8%.

After a year, applying the $100 to the credit card debt would result in a one year interest savings of $86. The same $100 invested at a hypothetical rate of return of 8% could result in an after-tax amount of $34. Another way to look at it is that, after a year, you would have saved yourself $52 by focusing on the debt. It is likely that the benefit would be even greater since this scenario assumes that you will actually get the expected rate of return for your investment and that your credit card interest rate doesn’t go up.

You can analyze your own scenario by using this Should I Pay Down Debt Or Invest My Monthly Surplus? calculator.

You might also enjoy reading:

What does it mean to save?
Baby steps to rebuild your emergency savings fund
How do you feel about your current savings plan?
From spendthrift to saver

Kim McGrigg is the former Manager of Community and Media Relations for MMI.