Better to save or to pay off debt?

Question

My husband and I are wanting to buy a house. We are trying to pay off a large line of credit bill before we buy the house so that we are sure that we are in a position to afford it. According to my amortization schedule, we will have it paid off by March 2009. But in doing that we are not contributing anything substantial to savings for a down payment.

So, my question is, should we divert some of the debt payment to savings or would we do better with our money by paying off our debt first, then save.

Interest is currently 8.75% per annum on the line of credit and we are paying $600.00 bi-weekly.

I also contribute $100/month to a mutual fund thing. Should I put that off until the debt is paid to put that money towards debt instead of savings?

We’re also in Canada in case that makes a difference.

The mutual fund is not a “tax deferred credit” but has about $1,400.00 in it now and is sort of an “emergency fund” and I have about $10,000.00 in RRSP’s that we are sorta thinking about using as a down payment at this time.

A mortgage rate would be better than 8.75 % but the interest is not tax deductable.

Answer 1

I understand where you are because my husband and I were exactly in the same place. I can tell you what we did. My husband had some debt which he brought into the marriage. He was paying it off in very small installments every month but there was no end to this. I decided to save up and pay off each credit card that he had maxed out before we moved into our home. It was the best decision we made. Once the debt was payed off, even though we didn't contribute very much to our savings, it was easier for us to make other payments that came up after we bought the house knowing that his debts were delt with. I also live in Canada and am aware of all the high interest rates. So my advice to you is to pay everything off because the interest that is accumulated towards this amount ends up as savings in your pocket when it's all payed off. It's a lot easier to save money when you don't have the debts anymore.

Answer 2

I'd try to pay more than the minimum on the credit cards. At least the minimum plus the interest accrued if not making double payments. If you can afford $400-500 per month, you may be able to pay your cards down to a small amount if not pay them off in a year. You do NOT want to get rid of any of those cards. Keep them active, but don't charge much if anything until you get the balances down. You don't want to get into yet another large payment along with all the other debt you have. You have to remember that you'll also need insurance, money for property taxes, utilities (which may be higher than where you live now) and possibly HOA fees. I know all this because it was advice given to my daughter and son in law when they were looking to purchase their first home a year ago. Lenders will look at the amount of debt you have when approving the loan and may stick you with a higher interest rate. Last bit of advice. DO NOT SIGN an adjustable rate mortgage. This is financial suicide.

Answer 3

If you pay extra towards your line of credit bill, just make sure those payments are going towards the principal. Not sure about the mutual fund. If it has paid you significant dividends then that's great. But if you're not sure if it's making you money, you may want to make sure it's not doing only as well as a passbook savings account. Consider your $100 month as going towards an emergency fund, like for unexpected doctor or hospital deductibles, or paying unexpectedly high car repairs. If you can cut back on any other things, like dining out or buying clothes, then you may pay off the line of credit even faster, because the high amount is keeping you out of the game.

Answer 4

An easy way to answer this is to ask you this question:

If you had a paid-for house, would you take out a home equity loan to put money in your savings and mutual funds? Probably not. That is essentially what you are doing when you keep debt around in order to save some cash. Debt is risk. Get it out of the way, then you can fast-track saving for emergencies and down payment on the house. Then, you can get back to your mutual fund.

Answer 5

The mutual fund will always be there, so I would stop paying that until everything else gets settled. Paying off your debt should be your priority now. If you have a high debt to income ratio then getting a home loan could be difficult, and your interest could be really high. Not all home loans require a down payment, but they are always encouraged. Plus the real estate market is good for sellers not buyers right now. I would keep watching it and see how things go. Maybe by the time you get all or most of your debt paid the market will be better for buyers.
Best of luck to you.

Answer 6

Take the baby steps. Get $1000 for an emergency fund. Stop the mutual fund funding. Pay off the debt. Live on beans and rice, rice and beans and get that debt paid off. Get a second job for your husband. That will bring down the debt faster then get 3-6 months living expenses saved. Then save for a 20% down payment and get the house you want!

Answer 7

I would continue to pay the debt down for now. Having that large of a debt will make it harder to get the best loan for your house.

If the mutual fund is not a deferred tax account, that is your savings for your house. You just have to cash it in when you need your down payment. If it is tax deferred, you may consider putting less into it, but take the difference and invest it where you can get it easily when you need it.

Answer 8

It depends on the interest rate of the savings vehicle you are using. If you are able to save at a high enough rate in order to pay down some of your debt, then you should save. If the interest rate is such that you are losing money by saving, then it doesn't make sense to save. You might be better off refinancing your debt into something with a lower interest rate if you can find it. Investing in mutual funds (if you are able to save) is definitely the way to go, as you are diversifying and letting the mutual fund managers make the educated decisions for you.

Answer 9

If you can use the mutual fund for your emergency-only fund, I would definitely work at paying off your line of credit. It sounds like you owe almost 30K on this credit line, and paying it off now-- agressively-- can change your financial outlook for the next ten years.

I just got a significant raise at work myself and am paying agressively on debt so that I'll be debt free in 10 months. Others are going out and financing new cars with the 'windfall'.

Trust me, you'll be SO happy when you have this paid off-- plus i'm betting you'll realize the sacrifice you made and not want to go finance things like crazy ever again.

Answer 10

Pay off the debt. If nothing else, this will put you in a better position to get a home loan.

I'm no expert of Canada, but in the US, a home loan would be less than 8.75% and would also carry a tax deduction. Therefore, taking on the new debt of a home loan would be better than the old loan.