Saving Money vs Clearing Debt

images (3)Many of us don’t have enough money set aside for a rainy day. One study found that four in ten UK adults don’t have £500 in a savings account – while another found that 28% have nothing at all in their bank.

Yet, while there’s clearly work to do to encourage the right attitude to savings there is a balance to be struck here. Saving money is important, but so too is paying back the money we owe. Indeed, Bank of England Governor Mark Carney has spoken out about his concerns over the rising levels of debt carried by households in the UK.

In an ideal world, you’d squirrel away plenty of cash at the same time as clearing your debts. But, while that is sensible and you shouldn’t see this as an ‘either/or’ question, there are some things to bear in mind if you are going to get the balance right.

Interest rates

It’s important to consider the full cost of your debt, once interest is taken into account.
By only making the minimum payment on your credit card balance, for example, you might be doing little to chip away at the overall debt and be accruing a fair amount of interest in the process.

It’s important to weigh up the respective interest rates between your savings and debts. It’s likely that your debt will rise at a much faster rate than your savings – especially given the low rates currently available to borrowers – and so every pound you put towards chipping away at your debt will ‘work harder’ for you than it would sitting in your savings account.

Types of debt

There are some debts that have to be treated as a priority and paid off as soon as possible and others where it makes sense to slowly and sensibly pay them off over a longer period.

It’s no exaggeration to say that credit cards, overdrafts and pay-day loans, for example, cost you more every day you have them and need to be addressed before you consider saving. Other debts – interest-free finance on furniture, say – should be a part of your long-term budget plan and might actually cost more to ‘settle up’ in advance if there are fees associated with this. These are usually set payments every month that are easier to plan around when drawing up a sensible budget plan.

Sensible savings habits

It’s important to foster a healthy attitude towards saving. You need to commit to saving something every month – however small – to ensure that you have a regular habit but you also need to be prepared to be flexible.

So, if you’ve settled debts or come to the end of a loan say, then divert the money you had previously spent on servicing this into your savings. You won’t miss it and because it’s been in your budget it should be a manageable payment.

Set a savings goal and break this down into a monthly or even weekly figure, so that you can see the long-term benefit of saving relatively small amounts of money.

A sensible goal, as the Money Advice Service notes, would be to save three months worth of spending as an ‘emergency fund’.

It’s important, therefore, to make a commitment to save every month. However, in order to get the balance right, the amount you save should take into account the debts you have and the nature of those debts.

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