One longstanding debate in the personal finance community is whether to use extra money pay off debt early or invest.
While this decision may often come down to personal preference, many would argue that it’s better to invest extra money and pay debt off on the normal schedule if the math is in favor of investing.
In other words, if you’re likely to make more by investing than you’d lose to debt repayment interest, then investing will put you ahead in the long run.
While I do see the logic and value in that argument, I decided to take a slightly different route with the auto loan for my truck.
I decided to pay it off early. And not just early, but two years early.
Why did I decide to pay off my auto loan early even though the math didn’t check out?
As you probably know, there’s more to money than math. Much more.
Here’s why I decided to pay off my auto loan early.
Playing the Percentages
Many personal finance pundits argue that you should play the percentages by considering whether debt payoff or investing will put you ahead.
In other words, you should invest rather than put extra toward debt repayment when the interest rates are in favor of investing.
For example, let’s say you have an auto loan at 3% APR and a brokerage account yielding 7% a year. In this case, the percentages are in favor of the investment, so mathematically, you would make more money investing your extra dollars than you would save in interest if you put that money toward your debt.
On the other hand, if you had credit card debt at 20% APR you’d come out ahead putting your money toward the debt versus the 7% investment account.
The math is pretty straightforward, but the reality is far more complicated.
Now that you have a basic understanding of the debt payoff vs. investing debate, let’s talk about my specific situation.
I bought a 2007 Chevrolet Silverado in late March of 2017 for $19,500. I put $3,000 down and secured a 4-year auto loan at 2.39% APR. My payments were about $350 a month.
If I had simply made the payment every month and paid the loan off on the 4-year timeline, I would only be 2 years in and would still owe around $8,100. I would have paid around $763 in interest when all was said and done.
Instead, I paid the loan off in 2 years, paid around $386 in interest, and am free of consumer debt.
Even without the interest earned, taking that $8,100 that I’d still owe and investing it would put me much further ahead than the $377 I saved in interest.
So why did I do it?
Why I Decided To Pay Off My Auto Loan Early
Obviously, from a purely mathematical standpoint, it makes more sense to invest the extra money as opposed to paying off my auto loan early.
The problem is that there is much more to money than math.
For me, the benefits of being free of consumer debt earlier far outweighed the negatives of not investing that money.
Here are my reasons why I decided to pay off my auto loan early.
Peace of Mind
The biggest benefit to paying off my auto loan early was the peace of mind I have from being free of consumer debt.
Debt has a psychological impact whether you’re aware of it or not. Studies show that debt tends to weigh on your mind, and that paying it off reduces your stress and improves your overall mental health.
I’ve found these results to be true in my life. I don’t like to owe money and would rather have the peace of mind that comes with being debt-free.
From Liability to Asset
Another reason why I decided to pay off my auto loan early was so that I could turn a liability into an asset before it lost all its worth.
Cars are depreciating assets that lose their value very quickly. Although the biggest hits come in the first several years of the life of the vehicle, all cars continue to depreciate as they age, whether they’re driven regularly or not.
My truck is a second vehicle that I use to haul my dogs and other large items, as well as a backup should my daily beater require work. As such, it’s driven infrequently and has not acquired many miles since I bought it.
Yet, despite only 2 years and 5,000 miles passing since I bought my truck its value has dropped a whopping $4,500!
Faced with the rapid rate of depreciation experienced by all vehicles, I knew that I’d have to pay my truck off as soon as possible if I ever wanted to turn this liability into an asset.
Overall Financial Impact
Aside from peace of mind and the desire to turn a depreciating liability into an asset, I also wanted to reap the benefits to my overall financial health that comes with being free of consumer debt.
No matter the type, all debt represents a liability that lessens your net worth and reduces your cash flow. This means that the more debt you have, the less money is available for the things you want.
Having more debt also increases your debt-to-income ratio, making it more difficult to accrue more debt if needed/desired and potentially lowering your credit score.
I aspire to buy an investment property in the next couple of years, so it’s important to me to have as low a debt-to-income ratio as possible and to ensure that any debt I do take on is for assets that will appreciate.
Free Up More for Investing
Yet another reason why I wanted to pay off my auto loan early was so I could free up more money for investing.
I’ve been steadily increasing my income over the past several years along with learning more about investing. The past year has seen me open a 403(b), a Roth IRA, and a brokerage account.
In all honesty, I didn’t know squat about investing until becoming a part of the personal finance blogger community and was only paying into my pension prior to this past year. In reality, I wouldn’t have been investing my extra money rather than paying off debt because I didn’t know how.
Now that I’ve jumped into the investing game, paying off my auto loan has freed up $350 a month to allocate between my 403(b) and my brokerage account (I was able to max out my IRA with savings).
This means I’ll have an additional $8,400 invested over the next two years, and with earnings, that amount will come out way ahead of the $8,100 I would still owe on my auto loan if I hadn’t paid it off early.
I Was Investing at the Same Time
Wait, didn’t I just say I wouldn’t have paid extra into investments because I just started?
That was true when I took the loan out, as I was only paying into my pension (which isn’t optional). However, I opened 2 of my 3 investment accounts a little over a year ago, meaning I started investing a year into my auto loan.
Despite putting extra money toward paying off my auto loan early, I was also able to put money into my investments at the same time.
I’m a big advocate of investing and paying off debt at the same time, as I think it allows you to get the best of both worlds. On the one hand, you’re reducing liabilities and stress levels while boosting your mental health, while on the other you’re taking advantage of time in the market for your money to grow.
Bonus: A Sign-up Bonus To Be Exact
Last but not least, I decided to pay my auto loan off early because it allowed me to earn a credit card sign-up bonus.
Even though I’d been steadily putting more money toward my auto loan over the first year and a half, I still owed about $2,000 as of January of this year.
January also happens to be the time of year that many begin working to earn the Southwest Companion pass.
The easiest way to earn the Southwest Companion pass is to meet the sign-up bonus requirements on a couple of Southwest credit cards, and I just happened to be attempting to meet one of these minimum spends while only owing a few thousand on my truck.
Luckily, OnPoint Community Credit Union offered an option for making a payment with a credit card (that I then paid off), which I took advantage of to not only pay off my auto loan early, but to put a huge dent in the minimum spending requirement for earning one of the Southwest sign-up bonuses.
Talk about a win-win!
Moral of the Story
Pay off debt early or invest?
While the math is clear on this one, the other aspects of personal finance do a good job of muddying the waters.
But personal finance is personal, and what’s best for one person may not be best for another.
In the case of paying off debt early or investing, it’s best to look at each individual situation and to evaluate extenuating circumstances to see if they tip the balance in favor of one or the other.
Thus, while the math was in favor of investing instead of paying off my auto loan early, further evaluation painted a different picture.
The peace of mind, overall financial impact, extra money for investing, ability to earn a credit card sign-up bonus, and the ability to turn a liability into an asset made paying off my auto loan early a no-brainer for me.
I’d also encourage others evaluating their own situation to consider investing while also working to pay off debt early, as I was able to do.
Doing both at the same time gives you the added advantage of eliminating debt and not paying extra in interest, while also allowing you to take advantage of time in the market with your investments.
Pay off debt early, invest, or both.
Where do you fall?