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How to pay off debt—and save too

Financial Wellness

Financial Wellness - Fidelity

Student loans, credit-card balances, car loans, and mortgages—oh, my. You probably have a variety of debt—most people do. So which should you focus on paying off first? And how can you save at the same time? Of course, make sure you pay at least the minimum required—and on time—to keep all loans in the black.

After all, defaulting on credit card, car loans, student debt, or home mortgages can destroy your credit rating, and risk bankruptcy.

Assuming you are meeting those primary obligations, here's a guide to help you pay off debt while saving for emergencies and long-term goals like retirement. It may seem counterintuitive, but before you tackle debt, make sure you have some "just in case" money and are saving for the future and your retirement. Here's a guide.

1. Set aside money for an emergency

Being hit with an unexpected expense could force you into a financial hole, which may take months or years to climb out of. So setting aside a contingency is an important step. How much to set aside for an emergency depends on your situation. In general, three months of expenses is a good starting point.

Quick tip: Set up automatic payments from your current account straight after pay day and pop that money into a separate account which is set up as a contingency or emergency fund.

2. Make the most of your employer’s pension contributions

Paying down debt is important, but if your employer matches money you put into your company pension, don't pass it up. If you earn £60,000 a year and contribute 3% or £1,800 to your pension pot and your company contributes a further 3% (another £1,800), assuming annual growth of 5%, in 10 years’ time that £3,600 a year could grow to more than £47,000. 

Quick tip: Give this money a chance to grow. If retirement is years away, that means leaning more toward stock market-based investments.

3. Pay high-interest credit card balances first

It can be easy to run up a large credit card balance. And once you do, it’s not easy to pay it off. If you only pay off the minimum each month, you will pay more interest and it will take much longer to pay off the balance. So, ideally pay off the balance in full or try to pay more than the minimum each month.

Credit cards can be a rewarding way to pay however, if you use them wisely. If you are diligent about paying off your entire balance monthly, you may want to consider a cash-back rewards card. That way, your credit card purchases can actually help you accomplish other financial goals.

Quick tip: Check your credit card statement to see how long it will take you to pay off the balance—and how much it will cost you—if you make only the minimum payment.

4. Contributing beyond the employer match in a company pension

While you may still have a student loan or mortgage, these loans typically have much lower interest rates. That's why it can make sense to increase your pension contributions and continue to make the minimum monthly payments on these loans rather than trying to pay them off earlier.

Your pension savings can really add up. Say you contribute 10%, or £6,000 a year, about £115 a week, of your £60,000 salary to your pension pot and your company adds £900. If you do that every year, in 10 years that £6,900 a year could grow to more than £90,000, assuming a hypothetical return of 5% per year.

Quick tip: Increasing your savings by just 1% each year could help you live the life you want in retirement. See how a small change can make a big difference by taking our 1% challenge. The key thing to remember is that paying off debt is important. That's why it makes sense to have a plan that will help reduce what you pay in interest and increase what you put into savings—giving it the potential to grow.

Important Information

This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser. The value of investments and the income from them can go down as well as up and investors may not get back the amount invested. The minimum age you can normally access your pension savings is currently 55, and is due to rise to 57 on 6 April 2028, unless you have a lower protected pension age.