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Credit Card Debt Calculator”

Tip #21: Save thousands by pre-paying your debt

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This is Tip #21 of of the Save $1,000 in 30 Days Challenge. (See past tips.)

Today’s tip is to save money on interest payments by paying a little extra off your loan each month. Because loans are usually large amounts spread out over many years, the savings can be significant. The longer the loan, the more you save.

pay-off-debt-over-long-term.jpg

Let’s say you have a $10,000 student loan, at a 6.8% interest rate and a 10-year repayment period. If you go with the standard monthly payment you’ll pay around $115 a month. But look at how much you’ll save in interest if you just pay $100 more each month:

Monthly payments         Total interest paid             You save
$115                                         $3,810                                         $0
$215                                         $1,640                                         $2,169
$315                                         $1,056                                         $2,754
$415                                         $782                                            $3,027

accelerate-debt-payments.png

Remember, even $20 more per month can save you SIGNIFICANT amounts of money. Note: Earlier I wrote “You have $100 extra per month. Should you pay off your mortgage early or invest?” and linked to two great articles. The point is, if can contribute even a small amount per month — whether to investments or any loans — the benefits can be huge.

See for yourself: Calculate your own savings using this calculator.

Total saved: $0 to $200 per month

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Last thing to do
1. See other tips in the Save $1,000 in 30 Days Challenge
2. Leave a comment on this post describing how much you’re saving with this tip and any unusual techniques you use to make this tip work.

If you liked this tip, check out my Premium tips — one long, tactical tip per week. Save money or get a 100% refund.

scrooge

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44 Comments

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  1. This is a great tip. What makes it so great? Paying down debt is a guaranteed return on your money. The rate of return is the interest rate of your loan. It is hard to find many guaranteed returns on your money. Generally speaking, if you have a solid emergency fund then paying down debt can be a very smart next step particularly if it’s high interest debt.

  2. So, this is a very basic question but one that I haven’t really been able to figure out. My husband and I have a decent emergency fund that we’re comfortable with for now. We also have $20,000 in student loans (6.25% interest) and have just opened Roth IRAs. Should we concentrate on maxing out our Roths each year, or work on paying down that student loan? Right now, we can’t afford to do both, although in a few years (hubby’s in grad school right now) we should be able to.

  3. This is a great tip, particularly if you apply it to a big loan like a mortgage. Over 10 or 20 years the savings are astronomical.

    Also, if you look at the alternative, investing in the stock market, it’s nice to know you’ll be getting a safe (if low) rate of return on this investment.

    -Jorge @ IndependentMinded.org

  4. Yes, it may be attractive to put that extra money each month towards paying off student loan debt, but doesn’t investing that money in the market make more financial sense?

    Student loan interest rates are generally much lower (4-6%) than the historical ROI one would get by investing into an index fund (8-11%). The interest that accumulates with student loans may seem daunting (trust me, 60K in debt and I know!), but overall one would still get a higher return by investing extra income into the market.

    What’s the balance between this idea and trying to pay one’s loans off as quick as possible? I’ve always struggled with this.

  5. Interesting post :) I like the visuals. The example is actually quite close to the my own situation (student loan is my only debt). I was recently able to free up some extra cash, so I had to think long and hard what to do with it. I ended up deciding to invest it instead of put it off on my loan. It’s for my retirement — and I figure every little bit helps. I’m hoping the strategy will pay off in the next thirty years.

  6. I never knew about this because I haven’t been in debt yet.

    Nice visuals, definitely something I need to look at.

  7. I have been doing this for some time now. When I bought my house, my lawyer who was with me for the closing explained this to me and gave me a website with a mortgage calculator. I am paying enough extra each month to equal 2 complete extra payments per year, and it is going to cut 9 years and almost 130k off my total interest payed over the course of the mortgage. If you have the extra income, I would suggest doing this.

    My lawyer said what a lot of people try to do is make a half payment every two week. This allows you to make 26 half payments, or 13 full payments. That is an extra payment per year, and can save you a ton on a 30 year mortgage.

  8. We have paid on the back end of our mortgage since its inception. We also refied to the tune of a 3-3/8% savings. Instead of paying the bank back for 30 years, we are looking to be out in 12.

    Money saving tip for eating out: Don’t automatically order a kid a kid’s meal…
    We took our six year old out for Mexican a couple of weeks ago. The kids’ menu prices were $7-9 each, which included rice and beans, soda, and dessert. We don’t let the child rink soda, she doesn’t like rice and beans, and there was grocery store ice cream in the fridge at home. We ordered her a soft taco off the ala carte menu for about $4.50 and she drank her favorite drink: water with lemon. I also ordered off the ala carte menu (I don’t like rice and beans) and my burrito was only about $8 instead of $16 for the full meal. Only my DH ordered a “meal”. He regretted it. It was huge and he was stuffed. Lesson learned.

  9. I was just debating last night what I would put this year’s tax return toward. I have three big “items” right now. 1) My student loans, 2) mortgage, and 3) my son’s (almost 11) college fund. The more I think about it and the state of the market I think if I have the chance to pay off a huge chunk of something, I am better off paying down the student loans because the sooner I pay that off, the sooner I will have that monthly payment back in my pocket and maybe by then it will be worth the risk of investing it for college. (Of course, I already pay a little extra each month toward my mortgage principal, and I try to re-examine that amount and increase it when I can.)

  10. I know it sounds silly, but for the debt I am trying to get rid of, I pay on it 2 times or more per month, when I get paid. I break the payment in half and usually add more to it if able. This keeps the interest I pay lower because it is only accruing for a week or two, and helps me to see faster progress on getting these paid off!

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