Investment and debt-repayment are two sides of the same coin. Most people with student loan debt pay interest and annual fees totalling 4-6% of the balance of their loans. This is in addition to the premium payments made every month. This percentage is a loan’s APR, and it is an immovable object. Unless you look into student loan refinancing, this APR represents the annual cost of the money you borrowed for your graduation. This rate will stay the same for the entire term of your loan.
Investment portfolios bring in returns that vary year by year. If the economy is active and healthy, you could see returns of 7-9% or even more. Some years see investors receiving enormous returns that far exceed 10%. The thing is, these returns are unpredictable. Unlike your student loan APR which never changes, investment returns go all over the place. Some years, your portfolio may even lose money.
In years where your investment return percentage exceeds your loan APR, you will make more money than you lose, making investment a worthy pursuit, even if you haven’t paid off your student loans yet. But on years where your portfolio brings in less money than you lose in student loan interest payments, your investments won’t be “worth it” in a way that is easy to appreciate.
However, investing has one advantage that makes this decision a little more complicated than subtracting interest payments from investment returns. When people start investing at an early age, compound interest kicks in earlier, greatly amplifying the overall growth potential of your investments over your lifetime.
Most readers will already be familiar with this concept, but it’s worth a review. If you make regular payments into an investment account for your whole life without withdrawing funds, the dividends that your portfolio earns will also be added to the pot. In this way, a successful investment pays into itself. This creates a snowball effect. As time goes on, you’ve got more money, so it grows faster, so it gives off higher returns, which makes your money, which can then grow faster, etc.
With compound interest, the sooner you begin the better. Therefore, a lot of advisors consider it prudent to start investing as soon as possible, even if the return you expect from your investment is nearly equal to your student loan APR.
However, you shouldn’t begin investing if you don’t have certain financial details worked out. If you have no savings to cover you if you lost your job or experienced a personal emergency, you shouldn’t put aside money to invest. Instead, create an emergency fund. You may also have personal preferences that motivate you to pay off your student loans as soon as possible. Some people find a lot of personal comfort in being debt free, and may invest with more fervor once the debt is cancelled. Finally, explore investment acceleration options, like employer matched 401(k)s.
Hopefully this has given you a clear way of figuring out how to prioritize your investments and student loan repayment. Simply giving these concepts clever consideration indicates that you are careful about your money, a trait which will serve you well for life, long after your student loans are paid off.
Photo Source
source: modestmoney.com
