picture of saving in a piggy bank while losing coins from the bottom

Are You Losing Money By Saving?

If You Have Credit Card Debt, You’re Losing Money By Saving

It seems counterintuitive, but if you have credit card debt, you’re actually losing money by saving instead of paying down your debt. It may feel like you’re moving forward, but you’re actually moving backward. People tend to compartmentalize cash and credit card debt and this can get them in trouble. While having cash in a bank account can give you peace of mind, this is an illusion if you have credit card debt.

What You Think Is Happening

Graph going up

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The truth is, money in a savings account isn’t doing much for you. Even if it earns a bit of interest, that earned interest is easily dwarfed by the interest you’re being charged on credit card balances. Put simply, if the interest you’re earning on savings is less than the interest you’re charged on debt, you’re losing money.

  • The average interest rate on savings accounts currently ranges from 0.01% – 1.45%
  • Meanwhile, the interest (APR) charged on credit card balances could be anywhere from 14% – 22%.

What’s Really Happening

Graph going down

If you look at your credit card statement closely, you will notice a “disclosure box” that warns you how much interest you will pay if you continue to only make the minimum payment compared to how much you will pay if you raise the monthly payment enough to pay the balance off in 36 months (3 years).

It usually reads something like this:  “Making only the minimum payment will increase the amount of interest you pay and the time it takes to repay your balance.” The difference is quite shocking. The credit card companies don’t disclose this information because they want to. They disclose it because the Credit Card Act of 2009 forced them to. You owe to yourself to check yours out.

An Illustration of the Illusion

Here’s an example of what saving $100 per month at 1% interest will yield compared to interest charged that you could avoid by allocating that extra $100 dollars to a credit card balance of $5,000 with 17% APR instead.

table showing financial impact of paying down debt v. saving

If you use the $100 per month to pay off debt, you’ll avoid paying $3,297 in interest charges over 3 years. If you invest the $100 instead, you’ll earn $35 after you pay taxes.

 

So, if you save $100 per month in a savings account for 3 years instead of throwing it at your debt, you will be left with all of $303 for your troubles. But if you allot that $100 to your credit card bill, you will save $3,192 in interest charges ($3,297 interest paid on the credit card less the $35 interest you would have earned in savings.) As you can see, the longer you drag out your payments, the more you pay in interest. You can customize your own personal configuration to check out how much you can save by using this calculator.

Remember that the amount you save in interest charges on your debt is the same as earning that interest on your savings. In other words, don’t save money to earn 1% interest if you’re paying 17% on debt.

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Don’t Build Emergency Savings if you have Credit Card Debt

While the idea of not having “emergency savings” in the bank may seem scary, remember, your money isn’t helping you in the bank. But it’s helping the bank quite a bit though. The bank is loaning out your money to make money for themselves. Meanwhile, interest is accumulating quickly on your credit card debt, pushing you further and further into debt. The banks are double dipping and this should piss you off.

Paying Down Credit Card Debt Is An Excellent Investment

Savings accounts are poor investment vehicles. They simply do not pay enough interest to keep up with inflation. In fact, you would actually be hard-pressed to find an investment vehicle that could deliver guaranteed returns which are more than the interest you are paying on your credit card debt. If you look at it this way, paying down your credit card debt means you are getting a return which beats the market. Pretty cool, right?

Having emergency savings is a popular idea. But think about it. The odds that you are going to have an emergency are much less than the 100% certainty of paying a ridiculous amount in interest over time the longer you drag out your credit card payments. Paying down your consumer debt first will relieve you of chronic money problems and allow you to save more in the future.  

Rethink Your Strategies

If you can use some of your money allocated for savings to attack your credit cards, you will end up with more money in the long run. If you look at the big picture, your savings balance is not the safety net it appears to be when you have a huge liability hanging over your head that has the potential to cause you sustained financial damage.

Ideally, we want no debt and savings. But it’s really important to make eliminating consumer debt the first priority. You can’t really save money if the amount you are putting in is less than the amount that’s bleeding out. A boat that takes in water at a faster rate than you can bail is eventually going to sink.

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