[BLOG] Paying Off Debt vs. Saving Before a Recession

A recession has been brewing for a while, making many Americans anxious about their financial futures. One of the most common dilemma consumers face before an economic downturn is redefining and reordering their financial priorities.

According to CNBC, U.S. credit card debt reached a record $930.6 billion by the end of 2022. That means that more Americans have to choose between building their savings or paying off debt before a recession hits.

This article will help you assess your finances, explore the pros and cons of each option, and make the best decision for your financial well-being.

Before you decide between paying off debt or building savings, give yourself a financial health check-up. First, think about how much debt you’re carrying, including your interest rates, minimum payments, and your total monthly payments.

Next, evaluate your savings. Look at how much you’ve saved, how much is in your emergency fund, and what your savings strategy looks like.

Finally, review your earnings. Factors like your income and job security will impact long-term financial plans. Think about any risk factors or upcoming expenses, too.

Paying off debt can be a good idea before a recession. Less debt equals a smaller financial burden and more money for other expenses. It also reduces the amount of cash you burn on interest over time.

However, only focusing on debt repayment may not be the best course of action for everyone. If you have no savings, putting all your resources into paying down debt might leave you without an adequate financial safety net, which is risky during uncertain times.

Savings are the bedrock of a solid financial plan. They're even more critical when job and income stability are lower. Whether it's a few hundred dollars in your savings account or a full-blown emergency fund, cash reserves can help you weather a job loss, reduced income, or unexpected expenses without taking on more high-interest debt. Additionally, having savings increases feelings of security and peace of mind during turbulent economic times.

On the other hand, if you put saving money over debt repayment, you may end up paying more in interest over time, which can hinder your long-term financial goals.

The choice between paying off debt and saving money is a personal one and depends on your situation. Here are some scenarios to help guide your decision-making process:

Don’t have an emergency fund: It is critical to give creating this financial safety net top priority if you have less than 3-6 months of money stashed away for a rainy day.

Have low-interest debt: If your existing debt carries a low-interest rate (like student loans or mortgages), it may be a better idea to concentrate on saving money. The benefit of more financial security may outweigh the interest on these kinds of debts.

Can easily manage your debt and have a steady income: If your debt is manageable and you have a steady income, you might want to concentrate on building some solid savings before tackling debt.

Have high-interest debt: If the interest rate on your debt is higher than 6%, it is generally a good idea to prioritize debt repayment. The interest you save by paying off this debt adds up. Once you’ve paid off your debt, you can use the extra money for savings or other needs.

Are struggling to manage your debt: If you have more debt than you can easily manage each month, you should focus on reducing your debt burden before anything else. This will not only free up cash flow but will also reduce financial stress, which has negative impacts of its own.

Deciding between paying off debt and saving money before a recession can be challenging. By considering the scenarios outlined above and evaluating your financial situation, you can make an informed decision that supports your financial well-being during a downturn. Remember, the key is to strike a balance that aligns with your needs, risk tolerance, and long-term financial goals.