How to balance paying debt vs. investing

The simple math behind paying off debt versus investing.

This video is presented by Robinhood. Our sponsor has no editorial influence over how we report our stories, but their support makes videos like these possible.

When you get to a place financially where you can begin to start saving, rather than living paycheck to paycheck, a big question often comes up: ”Should I pay off my debt or invest in the stock market?” There’s no simple answer, but there’s a simple rule of thumb that can help you decide what to do with this money to have the best financial outcome in the long run.

The first place to look is the interest rate on your debt and see if it’s below 7%, the rate of return you can conservatively expect from investing in an index fund, like the S&P 500. If your debt — like a mortgage or a student loan — falls below 7%, it is usually mathematically more beneficial to invest in the stock market while you pay down the debt by its minimum payments. The logic being: You’ll likely earn more interest by investing than your debt will accrue in that time.

Higher interest rate debt, like credit card debt, should almost always be eliminated as soon as possible, since you are statistically unlikely to see a rate of return from investing past 7 to 10% annually. And of course, investing always comes with risk. So the most secure bet is always to work toward being debt-free.

Further reading:

How to Prioritize Retirement Savings vs. Debt Payoff, Bill Fay

Should you pay down debt or invest?, Fidelity

Debt Destroyer, a US government online tool to help make a plan to eliminate debt

Note: The title of this video has been updated
Previous title: When it's okay to wait to pay off debt

[Vox]

Thanks for watching! We described a simple scenario here to break down the 7% guideline. But as a few of you pointed out, these scenarios can get infinitely complex. For example, once you pay off your debt, you have an extra $150 in your pocket every month that you could also put toward investing.


-Coleman

[rundown]

You know the economy is cooked when Vox is releasing videos like this

[charlesseed]

The message of the video is invest Sponsored by Robinhood

[iamjoris]

You can't compare the 1, 740 paid on interest over 6 years with 670 paid over 2 years. In the latter scenario you also have 4 years of extra time in which you can invest your money and make a return.

The overall idea still holds, but the differences are less dramatic than presented in the example.

[angelcastillo]

Remember when Robinhood stopped people from buying gamestop stock?? Those were the days 😂😂

[Tylru]

If I'm going to be tricked into watching an ENTIRE video that represents an advert, I expect to see "AD" in the title. Vox, this is really disappointing.

[ATStone]

Vox picked the exact wrong time to release this with whats happening in the market.

[conradcoolerfiend]

Another point to consider is how much tax your paying on the investment income. 7% return can quickly turn into 5% after taxes are considered.

[leerypixel]

im disappointed in this video it doesn't go in to the risks of investing debt where a recession will lead to people loosing a lot more than they put in, and then also the robinhood sponsor is not right as there is def a conflict of interest here between providing accurate, safe and interesting news and making more money. im disappointed in this video and hope this doesn't happen more from now on as it makes me lose interest/trust in the channel.
and just putting the disclaimer at the end isn't enough as ppl wont watch it all

[VascovanZeller]

Really though, if you have to ask, the answer is probably "pay your debts".

[arothmanmusic]

The interest rate on your debt is predictable, while the market is not. Nobody should be gambling if they owe money. While it's manageable to be relatively poor if you're not in debt, carrying debt and then losing your investments in a market crash is a crisis.

[pranischal]

There seems to be a mistake here: If the debt of $10000 is covered in 2 years, 7 months; he can now get next 4 years of capital gains at 7% in the index fund.

[JacobParker]

You forgot to account for tax on interest

[robotman]

The piece of mind you get when all your debt is zero is much higher for me than having a successful stock portfolio. It also increases your net worth given it's a big factor of how that's calculated. Makes no sense to me that people want to invest when they have so much debt in various forms (Student, Credit Card, etc.)

[michaelchase-zt]

Keep in mind that for stock investments to be effective, you typically need to hold them in your account until retirement and consistently invest over time using dollar-cost averaging. Many people don’t actually achieve the expected 7% return because they withdraw funds when the market is down. Additionally, any earnings from the stock market are subject to capital gains tax.

[FlintlockYT]

This just screams "conflict of interest"

[conradcoolerfiend]

A major point was missed here. Money that is invested in stocks needs to be able to stay there for 5-10 years past the current day, at any given point in time. So if you need that cash for anything in the next 5-10 years, it is more risky to put it in stocks. Stocks are better for long term investing. For example, say you are saving for a down payment, car purchase, college, wedding, vacation, etc, and plan to withdraw that money in 5 years. If that downpayment money is in stocks, what happens to your down payment if a big recession happens? Well, going off 2008, your down payment will crash by 40-50% and will take a few years to recover. If you withdraw that cash before it recovers, you just took a massive financial blow. You need to have the time to be able to leave that money in there and let it recover. For shorter term investment saving, there are less risky investments like GICs/term deposits, including market linked once that guarantee principal. Of course, all these have a lower average rate of return than the stock market .

[lilbro]

Remember to never use Robinhood.

They disabled the buy button on GameStop while keeping the sell button.

They don't have your interests at heart.

[IsYitzach]

Also student loan interest is counted against your income on taxes in the US. So, while it may have a 5% interest, you also get a tax break for carrying that debt. Something you can't say for credit card debt.

[travisdaniel]

You should consider scenario 3: pay off the debt early then take the payment plus the extra 200, invest for the extra 4 years. Better than scenarios 1 or 2?