How to save for Retirement While Paying down Debt

Updated: Jun 13



Saving for retirement while paying down debt can seem like an impossible juggling act. This post acts as a guide to figure out how to save for retirement while paying down debt.


If you want to save for retirement while paying down debt, you need to create specific goals of when you want to be debt-free and when you would like to retire. Then you need to figure out how much money to contribute to your debt and retirement savings and automate your savings.


Let’s examine how you can save for retirement while paying down debt, which starts with having clear financial priorities.


How to prioritize your finances

Paying off debt is an important financial goal. This is especially true for high-interest debt like credit cards. Once you have a cash emergency-fund set up, paying off debt might be your number one financial priority.

But should paying off debt be your only financial priority? That is a question that millions of people have who are paying off debt while trying to achieve other financial goals like saving for retirement. Should you stop saving for retirement until you are debt-free?

It can feel overwhelming trying to figure out which financial goal you should prioritize at any given moment. Let’s review a few simple steps to help you decide which financial goals to prioritize, and when.

Here is a list of seven steps to prioritize your finances:

  1. Pay at least the minimum payments on all of your debts.

  2. Create three critical financial goals.

  3. Start with your emergency fund.

  4. Crunch the numbers on all three financial goals.

  5. Create a goals-based budget and automate it.

  6. Tilt the numbers in your favor.

  7. Reevaluate and refine.

1. Pay at least the minimum payments on all of your debts

Making at least the minimum payments on all of your debts needs to be your number one financial priority. Missing a payment or even being late on a payment can have two significant impacts on your finances.

  1. You will potentially be hit with late fees and penalties.

  2. Your credit score will be damaged.

The immediate impact of missing credit card payments

The longer your credit card payment is past due, the more severe the consequences will be. Here are some statistics on penalties and interest for late credit card payments, according to Bankrate.com.

  • If you are 30 days late, you will be hit with a penalty that ranges from $25-$37. That penalty can increase if you miss another payment. In certain circumstances, a late payment could result in the cancelation of any promotional interest rate, resulting in you paying a much higher interest rate than you planned.

  • If you are 60 days late, you can expect to pay additional penalties and possibly a penalty interest rate. These penalty rates could be as high as 30%. Once your payment is 60 days late, the late payment gets recorded on your credit score and could be there for as long as seven years.

  • If you are 90–180 days late, things start to get very ugly. Between the increasing monthly penalties and penalty interest rates, your total debt will be increasing at a rapid pace. If you are more than 180 days late, the credit card company will likely cancel your account and send your debt to a collections agency.

The long term impact of missing credit card or other debt payments

As we just reviewed, missing your minimum loan payments can have a devastating impact on your finances. The long term damage can be just as painful because missing credit card and loan payments are one of the fastest ways to damage your credit.

Here is an essential lesson about credit. Building a high credit score takes a lot longer than destroying an excellent credit score. Missing payments on your loans have an immediate negative impact on your credit score, and it some cases, it can take up to seven years to repair the damage.

Contrary to what some people believe, having a lousy credit score can have substantial long-term impacts on your ability to generate wealth.

In the U.S, credit scores range from 300–850. In Canada, credit scores range from 300–900. Here is what is considered a good and bad credit score.

  • 300–649 Is considered a “bad” credit score.

  • 650–699 is considered a “fair” credit score.

  • 700–749 is considered a “good” credit score.

  • 750+ is considered an “Excellent” credit score.

One of the major financial milestones in life is buying your first house. Unless you have a few hundred thousand bucks sitting in your bank account, you will need to take out a mortgage to buy a home.

  • If your credit score falls from “Fair” to “bad,” that will likely mean you do not get approved for a mortgage, and therefore cannot buy a house.

  • If your credit score moves from “good” to “excellent,” you will likely be able to lower the interest rate on your mortgage, which could save you upwards of $60,000 on a 30-year mortgage.

It’s impossible to overstate the importance of making your minimum loan payments.

2. Create three financial goals

Your second financial priority should be to create three fundamental financial goals.

  1. Building an emergency fund.

  2. When you want to be debt-free.

  3. At what age you would like to be able to retire.

At this point, don’t worry too much about crunching the numbers on these goals. Simply make a realistic goal for when you would like to have a fully-funded emergency fund, pay off all your debts, and have the option of being able to retire.

Don’t forget to write down your goals.

3. Start building your emergency fund

Before you start getting aggressive on paying off debt and saving for retirement, it’s essential to have some cash on hand in case of an emergency.

You don’t need to have your full 3–6-month emergency fund set up at this point, but it’s important to have at least one month’s worth of basic living expenses set aside in cash.

Basic living expenses include the following.

  • Your “big 3” expenses of housing, transportation, and food.

  • The minimum payments on all of your debts.

  • Your cell phone, internet, healthcare, or any other essential expenses.

An emergency fund does not need to cover non-essential spending like vacations and eating out at restaurants. Many people would disagree with me and tell you that your emergency fund should include all of your regular spending habits.

When I think about the purpose of an emergency fund, I think back to some of the actual financial emergencies I’ve lived through. My primary concern during those times was keeping a roof over my head and food on the table.

If you are experiencing a real financial “emergency,” your daily spending habits need to change dramatically. If you lose your job, it’s time to eliminate as much non-essential spending as possible. In what reality does it make sense to spend your emergency fund taking the kids to Disneyland?

Once you have one month’s worth of basic living expenses set aside, in cash, you have built the foundation on which your financial house will be built.

4. Crunch the numbers on your three financial goals

Now that you have a start on your emergency fund, it’s time to get to work on figuring out exactly how and when you will accomplish your three financial goals of fully-funding your emergency fund, paying off debt, and saving for retirement.

Let’s review how you can crunch the numbers on all three of these goals.

Building the rest of your emergency fund

How much money you need to be contributing to your emergency fund each month depends on a few factors.

  1. How many months’ worth of basic living expenses do you want your emergency fund to cover?

  2. In how many months from today will you want that emergency fund fully funded?

  3. How much money you currently have saved in your emergency fund.

To illustrate how to figure out how much you should be putting into your emergency fund, let’s use a quick example.

Let’s say you want to have 6 months’ worth of basic living expenses in your emergency fund. Your goal is to have that emergency fund, fully funded in 8 months, and you have $2,200 already saved up in your emergency fund.

  • After tracking your monthly spending, you discover that your average monthly spending on basic living expenses is $2,200.

  • That means to fully-fund a 6-month emergency fund, you need $13,200 saved up.

  • Since you already have $2,200 saved, that means you only need to save an additional $11,000 to complete your 6-month emergency fund.

  • To save $11,700 in your goal of 8-months will require you to begin saving $1,375 per month for the next 8 months.

Paying off your debt

The next step is to figure out how much you need to be contributing to your debts each month. To do that, you will need to consider five actors.

  1. Current balance on each of your loans.

  2. Minimum payments on each of your loans.

  3. The interest rate on each of your loans.

  4. You need to have a goal for how many months or years you would like to be debt-free.

  5. Finally, you need to choose a debt repayment strategy you can stick with.

Two proven debt repayment strategies have helped millions of people get out of debt: the snowball and the avalanche strategy.

  • The snowball strategy is the process of paying off your loans in ascending order based on their outstanding balance, You start with the loan with the smallest outstanding balance, and end with the loan with the largest.

  • The avalanche strategy is a process of paying off your loans in descending order based on their interest rate. You start with the loan with the highest interest rate and end with the loan with the lowest interest rate.

Using all five-factors listed above, calculate a monthly amount you need to contribute to clear your debts in the timeframe you set out for yourself.

Let’s assume you have the following debts.

  • Credit card 1: $20,000 balance at a 22% interest rate with a $200 minimum payment

  • Credit card 2: $6,200 balance at a 16% interest rate, with a $62 minimum payment.

  • Credit card 3: $7,600 balance at a 17% interest rate with a $76 minimum payment.

  • Student loan: $44,000 balance at 8% interest ratewith a $350 minimum payment.

  • Line of credit: $3,500 balance and 7% interest rate with a $99 minimum payment.

We will also assume that your goal is to be debt-free in six-years, and you plan on using the avalanche method to repay that debt. To accomplish that goal, you will need to contribute $1,562 per month towards your debt. Initially, $787 will go towards minimum payments and $775 towards additional principal payments.

As you pay off more loans, more of that monthly payment will go towards the principal.

Saving for retirement

Finally, you will need to figure out how much money you need to save each month to have the option of retiring at the age you want.

There are two ways you can go about this.

The simple way would be to play around with a retirement savings calculator.

The more in-depth way would be to put in the time and research to build a DIY retirement plan tailored to your life.

This is generally a 3-step process.

  • Step 1: Decide how much income you will need in retirement.

  • Step 2: Determine how much money you will need to have saved on the day you retire to generate that income.

  • Step 3: Calculate how much you need to start saving each month to save that amount of money.

For example, if you were a 32-year-old making $85,000 and wanted to retire at 60 with 70% of your income, had $60,000 already saved, and had no workplace pension, you would need to start saving $2,147 per month to reach your retirement savings goal.

5. Create a budget that locks in your goals

Once you know exactly how much money you need to dedicate to achieving your financial goals every month, it’s time to factor those numbers into your monthly budget.

I realize most people hate budgeting. This means, even though they know they should have a budget, they probably won’t make one. That is why I take a very loose approach to budgeting, which I call the “goals-based budget.”

Here is how you create a goals-based budget in three steps.

  • Step 1: Start with your monthly take-home pay.

  • Step 2: Subtract the amount of money you need to contribute towards your emergency fund, debt-repayment, and retirement savings.

  • Step 3: Spend whatever is leftover.

An example of a goals-based budget

Step 1: Calculating your take home-pay

Your take-home pay is how much money you make every month after taxes, and all other payroll deductions are taken off your paycheck.

  • If you made $85,000 per year and 30% of your paycheck went to taxes and payroll deductions, your monthly take-home pay would be $4,958.


Step 2: Subtract the amount of money you need to contribute towards your emergency fund, debt-repayment, and retirement savings.

Let us use the numbers we have already calculated.

  • Required monthly savings to build an emergency fund: $1,375.

  • Required monthly contribution to pay off debt: $1,562.

  • Required monthly retirement savings: $2,147.

Total monthly savings required to achieve all three financial goals:$5,084

Step 3: Spend whatever is leftover

After subtracting the total amount required to achieve your financial goals from your take-home pay, spend whatever is leftover.

  • $4,958 minus $5,084= negative $126.

Yikes!

Clearly, those numbers are not going to work. If you are starting in a bit of a financial hole and you don’t make a really high income, you will likely find that the numbers in your budget don’t line up.

That brings us to the next financial priority.

6. Tilting the numbers in your favor

To tilt the budgeting numbers in your favor and balance your budget, you will need to pull one or both of the two levers of personal finance.

These are;

  1. Saving more money.

  2. Making more money.

Saving more of the money you already have will require you to make some lifestyle sacrifices. You can save a few bucks by cutting back on small, everyday purchases. But, if you really want to save a significant amount of money, you will need to reduce the amount of money you spend on the big 3 expenses of housing, transportation, and food.

If cutting expenses alone won’t balance your budget, you’ll need to find a way to make more money.

There are three ways to make more money.

  1. Make more money per hour. This can be accomplished either through a promotion or finding a higher-paying job.

  2. Work more hours. This can be accomplished through overtime hours at work or starting a side-hustle.

  3. Start a business.

The more you can increase your take-home pay, the higher margin of error you give yourself within your budget.

Let’s say you were able to pull in some significant over-time hours at work, and that allowed you to increase your monthly take-home pay from $4,958 to $6,700.

This would be enough income to cover your three financial goals, but would only leave you with $1,616 per month to live on. That is not very much at all and likely not feasible.

Once you have pulled both levers and done everything you can to save more money and earn more money, you have one final option to balance your budget.

Prioritize your financial goals

For some people, it just might be the case that you don’t have enough money to build an emergency fund, pay off debt, and save for retirement all at the same time.

If that is the case, you will have to prioritize your financial goals.

If you can’t balance your budget, the financial goal you need to prioritize is building your emergency fund. That is probably not what you wanted to hear, especially if you have a lot of credit card debt you are eager to pay off. But your emergency fund is the foundation of your financial life. You need a rock-solid foundation, and that means fully funding your emergency fund.

Continue making the minimum payments on your debts, and if you can afford it, contribute enough to your workplace retirement plan to get the full employer match.

Once your emergency fund is fully funded, you can redirect the money you were saving into your emergency fund and use towards your other financial goals.

If you weren’t contributing to a workplace retirement plan while you were saving for your emergency fund, now is the time to do so.

Next, you will want to take care of your high-interest and consumer debt.

Once your debt is fully paid off, you will have a lot more money to work within your budget.

It might take a few years to fund your emergency fund and pay off your debt, so at this time, it’s crucial to recalculate how much you need to be saving to hit your retirement goal.

Between the money, you freed up by accomplishing your first two financial goals and factoring in any increases in your take-home pay, you should have enough money at this point to begin saving enough to fully-fund your dream retirement.

7. Refine and re-evaluate

Your financial goals and the money you need to achieve these goals are not static. They are continually changing, and therefore you need to continually re-evaluate your plan.

Many events can drastically impact your goals based budget.

  • An increase or decrease in your take-home pay, which impacts your monthly budget.

  • A windfall of new money, perhaps from an inheritance or work bonus.

  • Merging your finances with a significant other.

  • Changing careers.

  • An increase in interest rates, which impacts your debt-repayment strategy.

  • An increase in living expenses, which impacts your required emergency fund.

  • Signing up for, or leaving, a workplace retirement plan which impacts your retirement savings plan.

These are just a few examples of life events that will cause you to have to re-evaluate your goals based budget and how much money you must contribute towards your financial goals.

Juggling your finances

It can seem very daunting to try and accomplish so many important financial goals, while also leaving money left over to live off.

Start by ensuring you are making at least the minimum payments on all your debts.

Once that is taken care of, the next priority is to build a minimum of at least one month’s worth of living expenses in an emergency fund.

Next, set three vital financial goals of building an emergency fund, paying off your debt, and saving for retirement. It’s important to put a timeframe on when you want to accomplish these goals.

Once you have set your goals, crunch the numbers and find out how much you need to contribute to turning these goals into a reality. Then subtract the total monthly amount required to achieve these goals from your take-home pay and spend only what remains.

If you can’t balance the budget, it’s time to pull the two levers of personal finance, saving more money, and making more money. If you still can’t balance your budget, it’s time to prioritize your goals, starting with your emergency fund.

Finally, it’s important to continually re-evaluate your goals based budget and ensure your plan still makes sense.

Accomplishing these goals will take time and a lot of perseverance. But, if you have a plan based on your financial priorities, you can absolutely achieve all of your goals in time.


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This article is for informational purposes only. It should not be considered Financial or Legal Advice. Not all information will be accurate. Consult a financial professional before making any significant financial decisions.

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