To ensure a comfortable financial future, you should save as much as possible for retirement, beginning as soon as possible. This allows you to take the best advantage of compound interest and any employer matching contributions and tax benefits of a 401(k) plan, for example. However, you must balance the need to save for retirement against other financial goals, such as paying off your debts. Achieving this correct balance is a personal decision and will depend on your individual circumstances, including your age, income and how much money you already have saved.
As of 2013, you can contribute up to $17,500 to your 401(k) accounts, or $23,000 if you are at least 50 years old. If you do not take advantage of the maximum contribution for a year, you cannot increase your contribution the next year to cover the missed opportunity for the previous year. You lose the opportunity forever to make that yearly contribution that grows tax deferred until retirement.
Many employers match a portion of your 401(k) contributions. An employer match is free money that you receive for saving and is an important part of your retirement savings plan. When you suspend your 401(k) contributions to pay off debt, you lose this benefit. The value of the match could be more than any interest that you save by paying off the debt.
If you are carrying high-interest debt, such as credit cards or payday loans, the interest you are paying on this debt may exceed the amount that you are earning on your 401(k) contributions. This is particularly true if you do not receive a company match for your contributions. In this case, paying off high interest loans may yield a greater return on your investment than making a 401(k) contribution.
Many consumers do not like carrying debt, or they may wish to make a change to their financial situation by getting out of debt. Being debt free will give you greater security if you were to lose your job or face another type of loss of income. Diverting 401(k) contributions to paying off your debts may allow you to increase the amount you save later, when all of the debt is cleared.