Question

Do you use money to invest that could have been used to pay off a credit card loan? If so, why? Do you think that there is any risk associated with this strategy? What factors do you need to know to determine if you should pay off the credit card loan versus invest the money you had? How might your expectation of future income streams impact that decision?

Answer 1

I normally don’t use money to invest before paying off a debt. However if the rate of interest on the debt is low, then I invest the money in equity and balanced funds which earn a superior return than the interest cost on the debt. This is because of the difference in the interest cost of the fund and the debt, there is a chance that I would be able to profit from the difference in the interest rates which I can use to pay off the debt at a later point of time.

The risk associated with this strategy is that the credit score gets affected and also if the fund in which I am investing does not give returns as per expectation, then I will be in a net loss and the debt that has to be repaid back also would have increased due to impact of compounding.

The factors to arrive at the decision of investing versus paying off debt is:

• Interest cost of debt
• Expected rate of return in funds wherein investment would be made
• Whether cost of debt is variable or fixed
• Riskiness of the investment funds

The expectation of future income streams impact the decision as an expectation of higher income in the future would mean postponing debt repayment for the future. However if the future income is not certain, then one would be prudent to repay the debt today itself.