Paying off debt before retirement | Vanguard (2024)

FAQs

What debt should I pay off before retirement? ›

“High-interest credit card debt stands at the forefront of debts to be cleared. Credit cards often carry steep interest rates, leading to escalating debt if not addressed,” said Khwan Hathai, a CFP and certified financial therapist at Epiphany Financial Therapy.

Key Findings. Adults aged 65 to 74 hold an average of $134,950 in debt, while seniors 75 and older hold an average of $94,620 in debt.

You'll put your retirement readiness at risk

By raiding your retirement accounts to pay off debt, you jeopardize your ability to maintain a comfortable standard of living when you retire. Financially secure retirees can better enjoy their retirement and avoid the stress of struggling to make ends meet.

It may be more prudent to pay off debts before saving for retirement for the following reasons: Less debt means lower monthly payments. If you work toward paying off debts and don't accrue further debt, your expenses should decrease each month. This is a wise move if you're looking to free up cash in the near future.

The 70-80% Spending Rule

Retirement advisors at Fifth Third Securities generally agree that a good rule of thumb for estimating your future spending is to multiply your current monthly spending by 70-80%.

“Shark Tank” investor Kevin O'Leary has said the ideal age to be debt-free is 45, especially if you want to retire by age 60. Being debt-free — including paying off your mortgage — by your mid-40s puts you on the early path toward success, O'Leary argued.

Mortgage and credit card debt, however, are a cold reality for over a quarter of retirees, according to new research from the Nationwide Retirement Institute.

Net worth is the difference between the values of your assets and liabilities. The average American net worth is $1,063,700, as of 2022. Net worth averages increase with age from $183,500 for those 35 and under to $1,794,600 for those 65 to 74. Net worth, however, tends to drop for those 75 and older.

By age 40, you should have accumulated three times your current income for retirement. By retirement age, it should be 10 to 12 times your income at that time to be reasonably confident that you'll have enough funds.

Wiping out high-interest debt on a timely basis will reduce the amount of total interest you'll end up paying, and it'll free up money in your budget for other purposes. On the other hand, not having enough emergency savings can lead to even more credit card debt when you're hit with an unplanned expense.

Why is debt bad for retirement? ›

Other types of debt—personal loans, credit cards, and auto loans, for example—tend to have higher interest rates and lack any potential tax benefits. These kinds of debt should "retire" before you do, because they can eat into your savings and reduce your standard of living.

Paying off credit card debt doesn't fit the IRS hardship definition, but some plans do allow a hardship withdrawal for paying off debt. The only way to find out if yours permits it is to ask the plan administrator.

Option 1: The “high-interest first” strategy

Paying off high-interest debt first is commonly referred to as the avalanche method. This involves making the minimum monthly payments on all of your credit cards and loans, but putting every extra penny you can toward the card or loan with the highest interest rate.

He recommends keeping a cash reserve of three to six months' worth of living expenses in case of emergency. You carry higher-interest debt: Before you pay off your mortgage, first pay off any higher-interest loans—especially nondeductible debt from sources like credit cards.

Key takeaways

Fidelity's guideline: Aim to save at least 1x your salary by 30, 3x by 40, 6x by 50, 8x by 60, and 10x by 67.

Eliminating debt can bring immediate financial relief, but dipping into your 401(k) or IRA to do so can jeopardize your future financial security. While the idea of becoming debt-free might be appealing, tapping your 401(k) or IRA is generally a bad idea. Here's what you need to know.

Clearing old debts can halt the persistent calls, letters, and emails from debt collectors, offering you peace of mind and safeguarding you from baseless threats. While the statute of limitations does prevent debt collectors from suing you over debts, you are still responsible for repaying your credit card bills.

So, if you've fallen behind on payments, it's crucial to address the situation head-on as soon as possible. In general, paying off your credit card debt in full is the optimal solution that preserves your credit score and history.