Should You Pay Off Debt or Save for the Future? Here’s How to Prioritize Your Money as a Millennial

Times are tough for a lot of us Millennials when it comes to our finances. In 2020, roughly 33% of us had already withdrawn money or taken out loans from our retirement accounts — that’s more than Generation X (15%) and Baby Boomers (10%) combined, not to mention a bad sign for our future selves.

Granted, 2020 was a wild year given the global pandemic and all. But another reason for the often misguided financial planning of Millennials can pretty much be summed up in a single word: parents. For many Millennials, financial advice comes from good ol’ mom and dad, even though they aren’t always the best resource for this kind of information (despite how confident they sound when giving financial advice).

We also can’t forget about the drastically different economic conditions we’re living in compared to our parents. Millennials earn 20% less than Baby Boomers did at the same exact age. So Baby Boomers have been in a much better position to purchase real estate, save for retirement, and still build up those discretionary funds to splurge every once in a while. Millennials, on the other hand, are not only facing low wage growth, but also poor career prospects, skyrocketing housing prices, and what can best be described as oppressive student loan debt.

The Problem: Prioritizing Your Finances

With seemingly everything working against us, how can we prioritize our money in the right way? Do we continue to follow our parents’ advice? Do we read a ton of articles and listen to all the podcasts on financial planning for Millennials? Or do we avoid thinking about it altogether so we don’t have to deal with the stress of deciding what to do with our finances?

No matter how tempting that last option is, don’t do it! That’s just kicking your future self in the knees — it’s akin to staying up until 3 a.m. scrolling through social media even though you have to get up for work at 7 a.m. Yes, you can rationalize this by thinking it’s something for your future self to deal with, but your future self will just end up hating your night owl's past self. Don’t make your future self resent your past self. Tomorrow will come, and it will come away more quickly than you expect.

Some of the biggest money management mistakes Millennials make include waiting to save and pay off debt. You can start saving today for your future while still making payments on loans, credit cards, and any other debt you might have. It’s all about understanding how to prioritize your money early to ensure you can reach your financial goals. Trust me — your future self will thank you for it.

Starting Out Strong: The Importance of Early Financial Planning

Here’s the thing about early financial planning: It can take away many of the stressors around making financial decisions and set you up for success (whatever that success might look like).

Let’s say, for example, we have two recent college graduates. Both work for the same company and hold the same position, but Brad goes to bed at 2 a.m. every night while Chad hits the hay at 10 p.m. with time carved out to prepare for the next day prior to bedtime. Even if both employees manage to get to work at the same time every day, Chad is probably more attentive and productive. By year’s end, the compensation difference between the two will be slight at best. Come year 15, however, there’ll be a sizable gap in pay — even if Brad changes his behavior a few years down the road.

This is how finances work. As a young adult, you can’t really see the fruits of your labor in comparison to most of your peers. But given time, you’ll see that a slow and steady approach is profitable because of compound interest. Think of compound interest as your new best friend in investing and in life. It does more for your wealth than any other investment strategy. Consider this example:

– You are able to invest $1,000 into your retirement account at the age of 20 and don’t touch it until retiring at age 70. Assuming a 7.2% growth rate (a reasonable estimate based on historical results of U.S. large-cap stocks), your investment would increase by 32 times over. That $1,000 would turn into $32,000 as you approach your so-called third act. But waiting until you’re 30 to make that same investment would provide you just half that amount ($16,000), and you cut it in half again ($8,000) when you invest the same amount at the ripe old age of 40.

–Now, let’s continue to see how to take advantage of compound interest and sink money into that initial investment by also contributing $83 per month until your retirement. Starting at the age of 20 would give you $465,000 by the age of 70. Waiting until the age of 30 to save $83 a month would result in around $225,000, whereas starting at the age of 40 would leave you about $105,000.

– To really drive the point home, let’s say you saved $30,000 over the course of 20 years, starting at the age of 25. For the first 10 years, you devote just $1,000 annually, and then up that to a total of $2,000 a year for the next 10 years. Even if you were to stop investing at 44 years old, you’d end up with right around $243,000 when you hit 65. Following the same scenario starting at the age of 45, however, would leave you with $110,000 less in your nest egg.

People see flashy investment movies such as “The Wolf of Wall Street” and think the best way to get wealthy is by buying and selling penny stocks or beating the market. But the reality is that compound interest is the way toward success. Start saving sooner rather than later to ensure you’re able to play the compound interest retirement game to its fullest and take advantage of that free money.

Avoiding the Stumble: Millennial Money Management Mistakes

Now that you understand how to take advantage of compound interest, let’s turn our attention toward financial mindsets, which can lead to some of the biggest money management mistakes Millennials make.

Generally speaking, young people often fall into one of two camps: They’re either too risky or too safe. I usually refer to the ones who are too risky as TikTok investors. This group is obsessed with Seeking Alpha. And as a result, they make ill-advised investment decisions that might not burn them now, but will eventually torch their finances. Those who are too safe, however, think they can simply save their way to their long-term goals. Unfortunately, this couldn’t be further from the truth.

If I were to give just one money management tip to Millennials, it would be this: There are necessary risks that you must take to build up your investment accounts to save for a house, wedding, retirement, or a rainy day. Risk equals return, after all.

A perfect example of this is the current U.S. housing market. Many aspiring home buyers have to deal with the reality that they simply haven’t saved enough to purchase real estate. But if they had taken the necessary amount of risk with their savings, they would’ve likely saved enough for a down payment.

This isn’t to say you should take on too much risk. That’s like driving 65 miles per hour in a 25 zone. Sure, you could get to your destination faster, but who’s to say you’d get there without crashing or getting pulled over — which would just delay your arrival anyway? My point is, don’t confuse risk with recklessness. Figuring out how to prioritize your money comes down to taking on calculated risks that will help you meet your goals — and doing more with your savings than the 59% of Millennials (https://www.investopedia.com/news/millennials-are-risk-averse-and-hoarding-cash/) who are reluctant to invest their retirement money. It’s a solid means of seeing long-term yields and higher returns than just letting your money sit in some bank.

The Next Hurdle: Tackling Discretionary Money Management

No matter your income level, you’ll likely have some funds left over after paying for the necessities. This is where discretionary money management comes into play. Here's where to put your focus:

1. Emergency Fund

The first place I always recommend putting extra money toward is an emergency fund. This helps take care of the behavioral side of your finances — such as saving for potential emergencies instead of binge spending to comfort yourself after a bad breakup — and allows you to make other financial decisions more comfortably.

So, how big should an emergency fund be? It depends on your situation, but a good rule of thumb is to set aside enough money to cover three to six months of your expenses. You can also think about it as saving whatever amount you’d need in a savings account to have peace of mind and invest with less stress. An emergency fund is a liquid cash, and it’s there to help you in times of need, such as if you were to lose your job. It’s also there to help you take on the necessary amount of risk in your investment portfolio to see a return and give you more flexibility with your overall financial plan.

2. Debt

This brings us to the big question: Should you pay off debt or save? The short answer is that you should do both.

Paying off debt is important for many financial reasons, but it also does a lot of good for your mental health. As many of us know, the feeling of having debt hanging over your head is not a good one. So getting it taken care of as soon as possible can relieve a major burden. I can show you breakeven analyses that prove extending debt payments to make investments might be the best decision numerically, but financial decisions don’t only come down to what makes you the most money.

If your overarching goal is to buy a home in the next 10 years, for example, then start saving and investing a little more aggressively. But if the weight of student loan debt keeps you up at night, then pay those off more aggressively. It’s all about setting priorities.

It’s here where we have to be realistic with ourselves about our financial lives. Sometimes, the goals we set for ourselves can be unrealistic, and that’s OK. We just have to adjust and determine the best tactics for paying off debt and saving at the same time. If your student loan payments are too high and eating away at your monthly cash flow, for instance, you might need to reconsider how much you’re investing.

If your debt has a high-interest rate, it’s hard to confidently say you’ll see a higher expected return on your investments. So paying down debt first makes the most sense — especially when you’re dealing with an interest rate that’s more than 6% or 7%. Don’t make the same money management mistake that 37% of Millennials (https://www.bankrate.com/banking/savings/credit-card-debt-emergency-savings-2021/) appear to be made by letting your credit card debt exceed your emergency fund balance. Pay down high-interest debt as soon as you can!

After you handle that, whatever debt remaining that has a lower interest rate should still be paid, but you can also start to invest your discretionary income into retirement or other investment accounts. And then, you can make decisions on how to prioritize your money around other financial goals to give you clarity on what to do next.

Conclusion

There will always be lingering questions around whether you should pay off debt or save thanks to some conflicting advice from parents and the internet. And you might make some money management mistakes while you figure out how to prioritize your finances. Don’t worry, though. You can arrive at a balance that works best for you, your lifestyle, and your financial goals — as long as you start now. Do your future self a favor.