Should You Pay Off Debt or Invest?

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Posted in Debt Help
Posted by J. Douglas Hoyes, CA, CPA, LIT, CIRP, CBV

pay off debt or invest

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What would you do if you received an unexpected windfall of $10,000? Would you choose to pay off debt or invest it? Today I explore these two options with Sean Cooper, a personal finance blogger famous for paying his mortgage off in just over 3 years, and my partner and co-founder of Hoyes, Michalos and Associates, Ted Michalos.

First, I asked Sean what he would recommend to someone in that situation. He noted that while you might come out ahead with investing 90% of the time, there is an undeniable good feeling associated with paying down your debt. He also mentioned:

“... if you have credit card debt, of course that would definitely make sense to pay that down rather than invest. Because with credit card debt being 19% or higher, with some retail credit cards having almost 29%, 30% interest rates, you should definitely pay that down sooner”

Sean also added that the motivation for paying down his mortgage was risk management, so he didn’t have to worry about losing his house if he were to lose his job.

Pay off debt or invest? Depends on the return and the risk

For Ted Michalos, the decision to invest was dependent on two factors: the tax rate and risk.

Let’s say you have a mortgage with 3% interest, your marginal tax bracket is 25%, and an investment would return 4%. In this case, income tax would reduce the amount the investment would return to 3%. So now both are equivalent financially speaking.

Even if the investment would earn a little more, there are risk factors to consider. You could lose your investment depending on where it is invested. However Ted points out there is risk with your debt as well. Let's assume you have a mortgage. Interest rates could rise, your home value could drop in value or you could get laid off and not make payments. Putting money towards your debt provides security against any of these possibilities.

Ted adds:

“The lower the amount of money we're talking about, the more inclined I am to say that it's not worth any kind of risk, your safer rate of return is to pay down the debt.”

When would I consider not paying my debt?

There are many kinds of debt - mortgage debt, car loans, credit cards. What you choose do do may depend on the type of loan you carry.

If you have a low interest car loan and no other unsecured debt or mortgage, it may be better to place the money in a TFSA so that it is available for an emergency. In addition, the car loan is listed on your credit report. If you pay it off completely, it may lower your credit score.

“It's a horrible trap that people can fall into. You think you did the best thing possible by paying off all your debt, but if you don’t have debt, if you're not using credit, then they don’t score you as high as somebody who regularly uses credit and makes all the required payments. So, if there's no history there, if they can't look to see you owe this money and you make your payments every month, you don’t rate as highly as somebody that does. It doesn’t make a lot of sense.”

When would I consider paying my debts?

If you are carrying debt on a high interest credit card with 15% -22% interest or on a store credit card with 29-30%, you will have a better rate of return putting the $10,000 towards your debt than you would investing it at a 4% rate of return.

Even with option of putting $10,000 into an RRSP and receiving $2,500 in a tax refund overall the math doesn't work for many reasons:

  • the tax refund comes several months later and you are paying interest in the meantime
  • the refund likely doesn't cover the full interest costs on credit card debt for a year
  • you only get a tax break once, the credit card debt remains until it's paid in full

And that doesn’t take into consideration the penalties you pay if you try to take out money from your RRSP. RRSPs defer taxes, but they do not eliminate them. If you’re in the 20% tax bracket and you defer 20% of the tax on the money you put into your RRSP today, you may have to pay more tax if you are in a higher tax bracket when your withdraw from your RRSP, 30 years from now.

Instead, Ted suggests paying down your debt and using the amount you saved in interest to invest into a RRSP. For instance, if you have a credit card with 20% interest and you put your $10,000 on your credit card, you'd save $180 a month interest. If you invest that $180 monthly into a RRSP, you would have over $2000 invested after a year. That would give you a tax refund of $500.

Ultimately it depends on math and risk

In the case of high interest credit card debt running the numbers can show that paying down debt makes the most sense. With other debts, ask yourself how much risk you can tolerate. Paying off debt is a guaranteed return. You reduce your risk to unforeseen events and likely will sleep better at night.

Listen for more insight in the podcast or read the transcript here below.

Resources mentioned in today's show

FULL TRANSCRIPT show #88 with Sean Cooper and Ted Michalospay-off-debt-or-invest-podcast

Doug Hoyes: To start today's show I want to ask you a question. Let's call it a thought experiment. Let's assume that you have some debt, it might be credit cards or a bank loan or a mortgage on your house. Now let's assume that you just received an unexpected windfall of $10,000, that's money you weren’t expecting but here it is. Let's assume it was an unexpected inheritance. What would you do with the money? Would you pay down debt or would you invest it?

That's the question on today's Debt Free in 30 show. Is it better to invest or pay down debt? Now, obviously the answer will depend on the type of debt you have and how much you can earn on your investments. Let's start with a simple example. Should you pay down your mortgage or use the money to invest? That's a question I asked Sean Cooper, here's the clip from that conversation.

I'm joined now by Sean Cooper who is a personal finance blogger and writer and he's also the guy who paid off his mortgage really quickly. So, Sean, you are faced with a decision, do I pay off my mortgage really quickly or, because interests rates have been low for the last few years, should I instead pay my mortgage more slowly and use that money to invest? And you bought your house I guess, it was 2012 when you bought it?

Sean Cooper: That's correct.

Doug Hoyes: And paid the mortgage off in 2015. So, that was during a period when interest rates were low and the stock market was doing well. Somebody listening to this podcast, if they're listening to on iTunes or on their phone maybe listening to it at some point in 2016 or 2017 when the world is different perhaps, by the time they listen to this podcast interest rates have gone up or the stock market has gone down. But during the period when you were paying down your mortgage, you focused on paying down the mortgage, not in investing. So, why did you make that decision and what do you think other people should be doing in a similar situation?

Sean Cooper: Well, that's an excellent question Doug. I would definitely say that investing versus debt repayment; it's definitely a personal choice. If you run the numbers, investing might come out ahead probably 90% of the time. But in terms of paying off debt, there's a good feeling that you get from getting rid of debt, whether it's paying off your mortgage or getting rid of debt from your line of credit or credit card debt if you have it.

So, it can definitely - basically take a look at like, first of all, it depends on the form of debt that you have. Now if you have a mortgage, mortgages traditionally have low interest rates, but if you have credit card debt, of course that would definitely make sense to pay that down rather than invest. Because with credit card debt being 19% or higher, with some retail credit cards having almost 29, 30% interest rates, you should definitely pay that down sooner if you have any sort of debt like that.

So, for me I saw paying down my mortgage as risk management because as I mentioned you can't really depend on having a job for life anymore in this economy. So, if you end up losing your job you have a choice of - like you can stop investing but you don’t have a choice of paying your mortgage. If you stop paying your mortgage then the bank's going to take your house away from you pretty quickly. So, basically for me it was about risk management and not having six figures of debt hanging over my head for the next 25 years. I didn’t want to have that fear of losing my house because it almost happened to my mother back during the .com bubble.

Doug Hoyes: So, for you it's not just a mathematical question. It's not as simple saying okay well my mortgage interest rate is 3% if I buy that mutual fund I might be able to make 4% therefore I guess I should put the money into the mutual fund. You're looking at it much more from a psychological point of view, a stress point of view. I want to keep my stress level down and my stress level will be the lowest if I pay off the mortgage. Because then I don’t have the debt, I don’t have to worry about losing my house, losing my job, it really becomes a risk management and stress thing as opposed to a math thing, is that what you're saying?

Sean Cooper: Exactly. And I see, a lot of people think, you know, why pay down your mortgage when interest rates are so low? And that's definitely a great point but for me I see interest rates being low as an opportunity rather than to basically pay down debt. Because when interest rates are low, debt is a lot cheaper so you can pay down your mortgage a lot quicker. When your mortgage renews if interest rates are 2% higher, then it's going to take you a lot longer to pay down your mortgage. So, I basically say, you know, make hay while the sun shines and pay down your mortgage when rates are low. Because I don’t think mortgage rates are going to be this low forever. So, definitely take advantage of the low mortgage rates we have today.

Doug Hoyes: Excellent. Well, that's great advice, thanks very much Sean.

Sean Cooper: Thank you, my pleasure.

Doug Hoyes: So, Sean made some interesting points. He said that even ignoring the numbers, there's a good feeling you get from getting rid of debt. So, even if the math may make it appear that investing is a better financial option, paying off debt may make you feel better. He also said that in this economy, if things go bad you can stop investing but you can't stop paying your mortgage so having debt is risky. Sean also makes the point that the type of debt is important.

So let's explore that topic further and to do that I'm joined by my Hoyes Michalos partner and co-founder Ted Michalos. So, Ted, what are your thoughts, if one of our listeners just got a lump sum of money, should they pay down debt or consider investing it for higher returns? And to make the question a little more specific let's assume that the only debt we're talking about first is a mortgage and I don’t know let's say the interest rate is 3% and the person thinks they can earn 4% on an investment. So, is the answer to that question obvious?

Ted Michalos: Well, let's take a second and make sure that everyone understands what interest is. So, it's a term that is used a lot and everyone knows there's a number associated with it. But the way to think about interest is it's what somebody pays to use someone else's money. So, if you are investing your money, somebody is paying you to let them use their money when you are borrowing from someone, you're using their money and you're paying them interest.

So, interest is the key to all of this. And so, we got $10,000 and we got a mortgage at 3%. Or we think we can get 4% on an investment return. That's an interesting discussion. So, you're making more money than you're actually paying, so a quick answer would be okay make the investment. I'm not sure that's the right answer 'cause it gets a little more complicated 'cause you've got to look at things like tax rates and that amount of risk that 4% investment has and now you're back into the points that Sean was making. Are you better off paying down debt? I think the smaller the windfall, the easier the answer's going to be for me. So, $10,000, I'm almost always going to advise that you pay down debt. $100,000 now wait a minute now this gets a lot more complicated.

Doug Hoyes: Well, so you hit on a couple of points there. So, tax rates.

Ted Michalos: Yeah, we could spend a lot of time talking about taxes.

Doug Hoyes: Which we won't because we'll just all go crazy and everybody will tune out. But one of the factors that you've got to consider in this discussion is the taxes. So, if I have a mortgage, I've got $10,000 in my pocket and I can put that money into an investment, the 4% I'm earning on the investment, I have to pay taxes on but the 3% on my mortgage that's already existed, I'm, I mean that mortgage was there even before I got the investment, that's not a tax deductible expense.

Ted Michalos: And you're paying the mortgage in after tax dollars.

Doug Hoyes: So, in that example it's not a good investment because I don’t know, let's assume I'm in the 50% marginal tax bracket.

Ted Michalos: Let's say 25%, you're an average working person.

Doug Hoyes: Yeah, so my 4% that I'm earning is really only 3%. And I'm paying 3% on the mortgage well I'm no farther ahead then. If my tax -

Ted Michalos: In fact I would argue that you're behind because you've taken the risk of losing your $10,000.

Doug Hoyes: And that's the other component to it, so now you think well, what's the risk in having a mortgage?

Ted Michalos: Well, interest rates could go up, the value of your property could go down or you could get laid off and not make the payments.

Doug Hoyes: So, there's a few key points there. Interest rates could go up and we're recording this in the spring of 2016 when interest rates are still low. If you happen to be listening to this broadcast, two years in the future, maybe interest rates are a lot higher. We certainly saw in the oil patch back in 2015 and certainly into 2016, house prices can go down.

Ted Michalos: They can. Every day in the papers right now they're talking about the price of detached homes in Vancouver and Toronto. People are trying to figure out: are they overvalued? And we can have a whole show on that but we're not going to get into that today.

Doug Hoyes: No but I will have some guests in the future who are going to talk about that as well. And I guess we'll only if things are overvalued five or 10 years in the future when we look back. If I can buy a house that's grossly overvalued for a million dollars today but I can sell it for a million and half next year, well I guess it's even more grossly overvalued.

But the point you're making and the point Sean made, is about risk. If I'm earning 1% on my investment over what I'm paying on my mortgage and my house goes down by 10% I'm wiped out, it was a ridiculous idea. And in Calgary house prices and Fort McMurray and places like that, they've gone down by more than 10%. So, it's a very scary thing. So, do you think it's a math question or is it more of a risk question, as to whether I should be investing or paying down debt?

Ted Michalos: Well, again down I'm back to the if it's $10,000, my answer's going to be one way, if it's a much larger number, an inheritance or lottery win, my answer could be significantly different. So, the lower the amount of money we're talking about, the more inclined I am to say that it's not worth any kind of risk, your safer rate of return is to pay down the debt.

Doug Hoyes: So, your point is if I'm risking $5,000 oh well, if I get wiped out that's not the end of the world. If I'm risking $100,000 then it's a different story. And when we talk about risk, and again we're talking specifically about mortgages here, the risks are that the house price could go down, the risk is that the investment I put my money in instead of paying down the mortgage could not go up or could go down. And then I guess the third risk is you; you could lose your job.

Ted Michalos: Yeah, you could get sick, something could happen. Or, you know what? Something unplanned for comes up that you needed the money for. Well, I guess if you had the investment you could cash it out and then use the money for that. If you've paid down the debt, I suppose the answer would be you increase the debt again to have access.

Doug Hoyes: But either of those things are not as simple as they would sound. So, I've got this investment, well is it some stock on the stock exchange that I can sell tomorrow and get my money or is it a five year locked in GIC? Is it an investment in a small business that can't be liquidated? And you would think, okay I paid down my mortgage by $10,000 I can just go back to the bank and bump it up.

Ted Michalos: Maybe.

Doug Hoyes: Maybe. What would cause the bank to say no to that?

Ted Michalos: Well, if the - if you've paid down the mortgage and the situation has changed, so that the value of the home maybe has dropped or hasn’t increased the way they wanted or your personal situation as far as income or health, that sort of thing has changed, you may not be a good risk to the bank anymore. Or they may be quite happy that you paid down the debt and don’t want to give you more.

Doug Hoyes: It also depends on the form of your mortgage, so if you've got a conventional mortgage where it's got five years more to run, you're paying a certain amount every month, the bank can't be just increasing it and decreasing it every week. If you have a secured line of credit, well okay I guess that's a bit of a different story. And I guess there's pros and cons on both of those. The advantage on the line of credit, secured by your house is that you can pay it off whenever you want.

Ted Michalos: You can. A line of credit secured on your house though, is usually a higher interest rate than a mortgage.

Doug Hoyes: And there's more temptation with it too.

Ted Michalos: Correct. I mean the reason banks were granting lines of credit against houses a few years ago, and they don’t do much of it anymore, was they wanted you locked into borrowing from them. So, if I've given you a $50,000 line of credit on your house, well hopefully you'll spend that $50,000 so they're making interest on it, as opposed to applying for a new credit card from somebody else or diversifying. They've got all of their eggs in one basket, you being the basket.

Doug Hoyes: And it's not - to register a mortgage actually takes some time too.

Ted Michalos: Yep and there are costs involved. So, I mean banks may ask you when you go into register a mortgage; well do you want us to register extra? I know this sounds stupid, but it's so then they can put a secured line of credit or something on the house later. Lots of people now are being asked to simply sign a carte blanche security agreement saying you've got a mortgage with the bank, a line of credit, credit card and overdraft, you sign a security agreement that says all of these things are pledged against your house. Those are hugely dangerous but that's another show we can talk about.

Doug Hoyes: Yeah. And so what we're getting into here is the area of risk. So, when you're thinking about should I pay down my mortgage or should I invest the money, the two key considerations then I guess are the math.

Ted Michalos: Yep.

Doug Hoyes: And the second one is the risk.

Ted Michalos: That's right.

Doug Hoyes: Those are really the two. So, okay we've talked about mortgages and I think that is a relatively simple question to answer. I mean okay, 3%, 4%, you can kind of do the math. But what if we get into different types of debt, so let's go up the secured ladder and look at things like car loans. So, a car loan maybe one of those, you know, no interest for five year deals. So, does it really matter if you pay that off or not?

Ted Michalos: It would be less of a concern to pay that type of debt down if they're not charging you any interest. Remember what I said, interest is the price you pay for using somebody else's money. It's a question then of, is the car depreciating faster than you're paying down the debt. So, it gets a little complicated but if you've got a five year car loan, for the first two and a half years you owe more money than the car's worth. Because the car's decreased in value faster than you're paying down the debt. After that, somewhere around your two and half, maybe month 36, the car should be worth more than what you still owe.

So, one school of thought would be if you get this lump sum of money, pay down that car loan even though it's at no interest to get it to the point where the car's worth more than what you owe against it.

Doug Hoyes: And that's the math answer, and I totally agree with that. You drive a car off the lot, a brand new car it's worth $10,000 less or whatever it is right the day you do it. What about the whole concept of flexibility then. If I have a loan against a car, I can't just sell the car I've got to make sure I sell it, get the bank to sign off, get enough money to cover the loan. If I've paid off the loan, sell the car whenever I want, put it on Kijjiji, put in on Auto Trader, boom it's gone, I have no other worries.

Ted Michalos: It still isn’t quick though.

Doug Hoyes: No, but at least that would be an argument I guess in favour of paying down the car loan even if it's a lower interest loan.

Ted Michalos: Yeah, I think if all you had was this low interest car loan and no other unsecured debt or mortgage or something and you suddenly came into $10,000, I might be more inclined then to put that in a savings account or some kind of investment vehicle just so you have it for a rainy day. But that might just be me as a conservative accountant. Like that may not be typical advice you give somebody.

Doug Hoyes: Well and which raises the point then that you as the individual consumer have to look at your own risk profile. I may say to myself yeah I don’t mind having that car loan at 0 interest 'cause it's really costing me nothing. And having that $10,000 sitting in a savings account or a TFSA or something I can access quickly, gives me a lot of comfort 'cause I know if for some reason I have trouble paying my rent one month, there's a bunch of money sitting there. If my car breaks down and I need a new engine well the money's sitting there. So, the risk minimization I guess is a big factor.

One factor we didn’t hit on in that scenario, is your credit report. So, if you pay off your car loan completely and now have no debt, in this mythical scenario that we're painting, and I suspect most people that have a car loan probably have a mortgage or credit cards or something else.

Ted Michalos: I know I do.

Doug Hoyes: There you go. If we paid off that debt and you had no more debt on your credit report that may potentially even lower your credit score. You have no debt anymore.

Ted Michalos: It's a horrible trap that people can fall into. You think you did the best thing possible by paying off all your debt, but if you don’t have debt, if you're not using credit, then they don’t score you as high as somebody who regularly uses credit and makes all the required payments. So, if there's no history there, if they can't look to see you owe this money and you make your payments every month, you don’t rate as highly as somebody that does. It doesn’t make a lot of sense.

Doug Hoyes: It's a bizarre show but again you can go back and listen to the show I did on credit rebuilding and how that all factors into it. But again we're trying to figure out reasons why I would not pay down debt 'cause I think Ted, you and I are both the same. If I have a chance to pay down debt, that's what I'm going to do. There's less risk, I'm not paying interest, my life is simpler.

So, the default answer I think for us, is pay down debt. But there may be legitimate reasons why you wouldn’t. Keeping some active, open credit on your credit report may be one. But then again that only matters if you're going to be borrowing again in the future. So, if I don’t plan on buying a house or a car then my credit score is much less important to me. So, I think the answer becomes really obvious when we look at the other types of unsecured debts like credit cards.

Ted M  It's not going to take long to get into credit vehicles or tools that the interest rates are so ridiculous that paying them down only makes sense. So for instance a good credit card, a low rate credit card at a bank these days is what, 10, 11% interest? And if you start missing payments or have a problem they bump it to 15 or maybe 18. A standard credit card, you know, a TD Emerald or something, a TD Green Card is probably at 18 or 21%. And then a store card is at 28, 29, 30%. So, the higher the interest rate on this debt that you're carrying, the easier this decision's going to be. If you had $10,000 and you know you could make 4% return on an investment or you pay off $10,000 worth of 29% interest credit debt, well you're making a much better rate of return on paying down the 29% debt. It's no comparison there. You shouldn’t even think about it. Go ahead and do it.

Doug Hoyes: Yeah, it takes 10 seconds to do that analysis. 30% after tax on my department store credit card or maybe I can earn 4% on my investment. And I guess the final caution I would give on that, when you're talking to your investment advisor and they say oh yeah, you're going to get a 5% or 10% rate of return, well there are really no guarantees in any kind of investment.

Ted Michalos: Correct.

Doug Hoyes: So, I guess if you get a GIC at the bank that pays 2% interest.

Ted Michalos: And good luck getting one of those right now.

Doug Hoyes: Yeah, they don’t exist. But if they did then I guess as long as the bank doesn’t go bust you're good.

Ted Michalos: You know what? This is the scenario I think that's most likely to happen. You get this $10,000 windfall and your investment advisor says you know what? You should put that $10,000 in your RRSP 'cause you're going to get a $2,500 tax refund. So, that's automatically a great rate of return over the two or three or four percent you're going to make on the investment. So, now it's do I put down $10,000 on my RRSP or pay $10,000 worth of credit card debt. I'm still of the opinion that you pay down the credit card debt.

Doug Hoyes: And that's an issue I'd like to talk about a bit more and we can also get into TFSAs, which have some slightly different tax consequences too, so let's talk about that in the Let's Get Started segment.

To wrap this segment up though really what you're looking for when you're trying to decide should I pay down debt or should I invest, is what is the math say? 'Cause with a credit card it's obvious - pay down the debt and what risk am I taking by continuing to hold that debt? Would I be better off paying it off even if the math maybe doesn’t suggest it? Would I feel better by doing that? So, that's where we'll end this segment. We'll be back with more. You are listening to Debt Free in 30.

It's time for the Let's Get started segment here on Debt Free in 30. I've asked Ted Michalos to stick around for this segment where we focus on practical advice. So, Ted we addressed it a bit in the previous section and one comment I hear a lot in this debate over investing or paying down debt is, you don’t really need to choose. You can do both. So, some financial advisors say that you should contribute to your RRSP and then use the tax refund to pay down your debt, that way you get the best of both worlds. So, can you walk us through the math on that and tell is whether or not that concept even makes any sense?

Ted Michalos: Well before the break we were using a $10,000 windfall as an example so let's carry on with that. So, $10,000 into your RRSP or $10,000 on a 28% credit card or should we be fair make it a 20% credit card?

Doug Hoyes: Sure, let's go with 20, keep the math simple.

Ted Michalos: Alright so the $10,000 on a 20% credit card, you're paying in excess of $2,000 a year in interest only, if you don’t pay down the card. So, that's $2,000 works out to $180 a month. So, the RRSP if we put $10,000 into it and let's say you get a $2,500 tax refund, so you then apply that $2,500 to the debt six months later when you get your tax refund. So, it's going to reduce your debt and the amount that you pay by $500 so you're still out - the math doesn’t work.

Doug Hoyes: You're right, the math just doesn’t work. And the credit card debt continues on forever or continues on until you pay it off, whereas you only get the tax break on the RRSP once when you put the money in. Obviously anything you earn in the RRSP is sheltered.

Ted Michalos: But it stays in the RRSP and if you take it out there's a hit.

Doug Hoyes: Then you pay tax on it. And that's a key point, an RRSP is a tax deferral mechanism, it's not a tax reduction mechanism. It's not something that you can save tax; it's something that you defer tax on. So, if I'm just starting out in the work force and I've got a low paying job and I'm in the 20% tax bracket, well I defer 20% of the tax when I put it in. But if I withdraw the money 30 years from now when I'm in a much higher tax bracket, I'm paying more tax.

So, it's a deferral mechanism, not a way to eliminate tax. You're paying tax - or sorry, the money that you're paying on your credit card is after tax dollars, so what does that mean? What do we mean when we say after tax dollars?

Ted Michalos: Well, so if you're in that 25% tax bracket, to make a $400 payment on your credit card, you actually had to earn $500 in the first place.

Doug Hoyes: So, think about that then. So, the, you know, I had to work how many hours to make that payment is I guess the way you got to think about it.

Ted Michalos: Every hour that you work, well three quarters of the hour, you get to keep, one quarter of the hour, the government gets to keep.

Doug Hoyes: And that's assuming you're in a 25% tax bracket. If you're in a higher bracket than that you can, you're paying more. And I mean we're just passing through tax season now as the show's coming out. Go and look at your tax return, look at the total income line and look at the total you had to pay both in federal and provincial tax, that's your total tax rate, that's not your marginal tax rate, which is the tax on the last dollar you owe, or sorry, earn. And obviously that doesn’t include GST and all the other taxes you're paying either.

Ted Michalos: I mean I want to flip this over on the investment advisor that's telling you to do the RRSP. So, if you paid $10,000 worth of your credit card debt down at that 20% interest that we were talking about, you've now reduced your monthly payment by $180. If you took that $180 and put it in your RRSP, I'd have less of an argument with you.

Doug Hoyes: So, pay, so what you're saying is pay down the debt and then use the savings to invest as opposed to the other way around.

Ted Michalos: Right, much safer 'cause the debt's gone. You're not paying somebody else to now use their money, they're paying you to use your money. You won't get anywhere near the tax refund, right? 'Cause you're only going to put $180 a month in that, in your RRSP so at the end of the year you've thrown in $2,000, your tax refund is $500, which you could then use to reward yourself for making good financial decisions.

Doug Hoyes: Yeah and I guess if you wanted to look at this as a math question well do the math, get a spreadsheet out, get a piece of paper and a pencil and map it out. So, I've got this money, if I pay it down on my credit card, how much interest am I therefore not going to have to pay. If I put it in a RRSP, I get a tax break but then I'm still paying interest for years and years on my credit card. The math probably is going to be pretty obvious when you do it that way.

Ted Michalos: You can't compete with paying down credit card interest; the rates are just too high. If you've got credit card debt, unsecured debt of that type, pay it down, you're always going to win.

Doug Hoyes: And we did mention in the first segment that the investment that you're putting the money into, the RRSP investment that your investment advisor is putting you into, is most likely not guaranteed, probably not even close to guaranteed. So, just because the stock market went up 10% two years ago, doesn’t mean it's going to go up 10% next year, it might go down 20%. It goes up and down. So, how much worse will you feel, still having credit card debt and now having an RRSP investment that's gone down? It's even worse. So, ultimately Ted what it comes down to is what we talked about at the first segment, math and risk.

Ted Michalos: Correct. And you know what? Say it easily, what's going to make you feel better?

Doug Hoyes: So, yeah I think that's a great place to default. Look at the numbers. If you are the kind of person who is risk adverse and would prefer not to have any debt out there, then the answer is real simple, real obvious, pay down the debt. If you can't afford to do that well then maybe you do need to be looking at a proposal or a bankruptcy but again that's something we're always happy to talk to you about.

Ted, thanks very much for being here for the Let's Get Started segment. That was the Let's Get Started segment, I'll be back to wrap it up on Debt Free in 30 right after this.

Announcer:       You're listening to Debt Free in 30. Here's your host Doug Hoyes.

Doug Hoyes: Welcome back, it's time for the 30 second recap of what we discussed today. On today's how my guests Sean Cooper and Ted Michalos answered the question is it better to pay down debt or invest. Sean believes that even for low interest rate like a mortgage paying down debt is the least risky alternative. Ted agrees and said the answer is even more clear when dealing with high interest rate debt. That's the 30 second recap of what we discussed today.

So, what's my take? Well, I think you should ask yourself two questions. First, what does the math say? If you're paying 30% interest on your department store credit card and your investment may earn 4%, the math is obvious, pay off your debt.

The second question is how much risk can I tolerate? Paying off debt completely eliminates the risk that you will not be able to pay off your debt. Even if your mortgage interest rate is only 3% paying down that mortgage eliminates that debt and that interest payment. You can't lose. As Sean Cooper said, it's a good feeling. You don’t have to worry about getting sick or losing your job or not being able to pay your debt. You've reduced your risk and that makes it much easier to sleep at night. So, the obvious decision, in virtually all cases, is pay down your debt.

And as I said on the show, if you have more debt than you can handle consider a consumer proposal or even bankruptcy as a way to eliminate your debt once and for all, and completely eliminate your debt repayment risk.

About J. Douglas Hoyes

Doug is our co-founder and is a Licensed Insolvency Trustee, Consumer Proposal Administrator, certified Insolvency Counsellor and Chartered Professional Accountant.

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