Dave Says

Wednesday, April 23, 2008 at 1:13am

Dear Dave,

We have about $8,000 in car loan debt. Despite this, I’d like to go ahead and fully-fund our Roth IRAs. Time equals money, you know? My wife, however, thinks we should pay off the debt first. The fact is we can have either one done by December. What do you think?

Steve

Dear Steve,

I wouldn’t do that, because I wouldn’t borrow on my car to fund an IRA. Now, if time really did equal money — which it doesn’t — then I would borrow on the car to fund the IRA. The problem, though, is that you’re not adjusting for risk.

You’ve got to get out of the mindset that debt is OK. Once you lose that idea, then you’ll realize that missing a year of funding your IRA isn’t going to kill you or keep you from becoming wealthy down the road. But if you stay in the mindset that debt is OK and you’re going to play around with it, then it will kill you financially!

Winning with money is more about behavior than it is about math. Don’t get me wrong, you need to crunch the numbers, too. But all the mathematical components are just theory unless the behavior kicks in.

I’m siding with your wife on this one, Steve. Just follow the Baby Steps, and have your emergency fund of three to six months of expenses in place and all your debts paid off — except for your house — before you start any long-term investing.

A lot of folks will tell you it’s not mathematically correct, but it will work better in the long run!

— Dave

Dear Dave,

I’m making a budget every month, and I’ve got $1,000 in the bank to start my emergency fund. After all my expenses I have $125 left, but I also have three credit card debts that total $18,000. Should my next step be to pay these off or should I start investing the money I have left over?

Holly

Dear Holly,

Congratulations on accomplishing Baby Step 1 and getting $1,000 in the bank to start your emergency fund! Baby Step Two is paying off all debts except the house.

So let’s put the investing off for now. Squeeze every dollar you can out of that budget, and focus on your debt snowball. To do this, make a list of your debts from smallest to largest, make minimum payments on all but the smallest debt and then attack it with a vengeance. As soon as you get that one paid off, roll the money over you were using on it — plus any other you can scrape up — and target the next debt and then the next.

Once the credit card mess is history and you’re debt-free except for your house, you can work toward Baby Step Three — a fully-funded emergency fund of three to six months of expenses. NOW, you can begin concentrating on Baby Step 4 — long-term investing.

It’s important to save, Holly. But it’s also important to become debt-free. This is what frees up your income and makes investing easy!

— Dave

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