Should You Reduce Your Debt? It Depends …

Americans’ debt is growing. Should this be a concern to you, particularly as you near retirement?

Total household debt rose to $12.73 trillion in the first quarter of 2017, according to the Federal Reserve Bank of New York. That is $149 billion higher than it was at the end of 2016. In fact, today’s debt level is so high, it tops what it was in 2008 – the midst of the financial crisis.

Maybe, but…

Conventional wisdom holds that you should seek to lower your debt. That’s true, especially as you near retirement, when you will want to live modestly.

Not necessarily

But from a macroeconomic perspective, higher debt levels can be positive because they indicate that banks are comfortable lending, leading to increased consumer spending, which drives economic growth.

It’s also interesting to note that today’s debt is different from the debt we experienced during the financial crisis. Mortgage balances still make up the bulk of household debt, but these are declining, as are credit card balances. And a larger percentage of today’s debt is held by more creditworthy borrowers than in 2008, according to the New York Fed. So it’s unlikely that we are in the midst of another lending bubble.

That said, if you are in debt, you may want to look into ways to pay it down. High-interest-rate debt, such as on credit cards, usually should be paid off first, while low-interest-rate debt, like mortgages, is generally paid off last (especially if the interest is tax-deductible, as mortgage interest often is).

Many people struggle with whether to pay off debt or save for retirement. There is no one-size-fits-all answer, but conventional wisdom says that one should pay off debt first only if the interest rate on it is higher than the income you can earn by saving and investing.

Confused? Your adviser can help by discussing your options with you.