Here is the lesson I received (NB Hubby Finance is not a financial planner and neither am I).
If you have spare cash and can make more money in an investment than your debt rate, then go ahead. If not, put the money in your debt. OK, I didn’t understand this so I wrote down some examples with some arbitrary rates.
- Mortgage 6% interest
- Credit Card 14% interest
- Investment 10% return
- Savings Acct 5%
Example 1: Put $1000 in the investment
In a year you would earn $100 interest. Let’s say your tax rate is 25%, tax on $100 is $25, leaving you with $75. Credit card interest cost on the $1000 = $140. Mortgage cost on $1000 is $60. Net result of investment vs credit card (highest debt rate) = $75 – $140 = -$65.
Example 2: Put $1000 into credit card
Interest saved from credit card = $140. Mortgage cost = $60. Net result = $140-60 = $80 better off.
Example 3: No credit card debt, money into savings or mortgage ?
$1000 into savings, $50 interest – 25% tax ($12.50) = $37.50 less $60 mortgage cost on the $1000 = -$22.50.
$1000 into mortgage, $60 better off.
So, if our credit card debt is 0, instead of putting that $1000 or $100 or $50 into our savings account, I place the money into our mortgage and redraw the money when needed. I asked what if the savings interest rate was higher like 7% ? Back to the calculator:
$mortgage = -$60
$savings = $70 – 25% ($17.50) = $52.50 I’m still worse off by $7.50!!
Of course if the credit card has any debt we try and clear that first and then we use our mortgage account as our pseudo savings account. If there’s any flaw to the logic I’d love to hear your comments.