Pay Off Debt or Save?
While getting ready to start your own company or freelancing full time doesn't require any financial planning -- making good financial decisions will ultimately position you for a better chance at success.
This is especially important for consultants, who in recessionary times, will see consulting rates trend downwards as former corporate employees struggle to find employment and take consulting gigs out of desperation.
Yes, I'm going to tell you that you need to save some money, and by "some" I mean lots and lots of it. But sometimes that isn't the always best decision. Assuming that you have built up an emergency fund of six months of post tax monthly expenses, you need to decide what to do next. Do you continue to save, or invest, or put it in a retirement account, or pay off debt.
Not surprisingly, this is one of the most commonly asked questions of financial planners, something like:
I have $5,000 in my hand. I am trying to decide if I'm better off paying off part of my credit card debt, auto loan, or investing it. What should I do?
Today, the answer is simple. Treasuries are paying astonishingly low interest rates, and large commercial savings accounts are paying a whopping 0.20% APY. Conversely, most credit cards are charging 18, 19, 23, and up to 28% interest.
I think you can see where I am going here. You are far better off paying off your unsecured debt, followed by secured debt (and your student loan and mortgage dead last).
This year I will be following my own advice and will be totally, absolutely 100% debt free.
Why do I mention this now?
Last year, I purchased a used pickup truck and financed the transaction through Wells Fargo auto loans. At the time, I didn't want to pull any money out of savings to purchase the vehicle outright, so I financed with the intention of an early payoff later (and that day has arrived).
I was surprised when they tried to bill me for "Collateral Protection Insurance", effectively adding $635 to the loan per year. It took two calls, plus a conference call with my insurance agent to prove to Wells Fargo that I really did have insurance on the truck.
Today, roughly six months later, I received another letter from Wells Fargo threatening me that if I don't prove (within 15 days) that I still have insurance, they will simply add $635.00 to the loan and force place the insurance on my vehicle.
Enough already. Personally I think this is a sleazy way to do business, force your customers to buy insurance through a company you have a financial interest in, and roll that into the loan (and collect more in interest). Additionally, it appears as if you pay any money towards the loan, it is is automatically credited towards the compulsory insurance. So if you don't pay it in full in addition to the regular loan payment, you get hit with late fees and quickly start getting harassed by bill collectors.
Frankly, I don't want to ambushed every six months and having to submit faxes, make calls, just to prove I have insurance again. I was steaming mad, but my anger soon melted into chagrin when I recalled that the Wells Fargo is costing me 8.69% APR (because of the age of the vehicle), while the high interest savings account I have has been putting my money into ratcheted down to 2.75% APY.
D'oph. I'm much better off simply paying off the loan and saying goodbye to these jokers. I would save roughly $1,793.26. On the other hand, if I let the money languish in the savings account and watch the bank reduce the interest rate again in response to the Fed's newest rate cut, I would only earn $806.40 on the same timeframe.
Labels: Personal Finance
