Photo of a couple in their kitchen deciding what to do with their excess money, save for retirement or pay off debt.

7 steps to pay off debt and save for retirement

No matter how much you make or what stage of life you’re in, you’re going to have to prioritize spending and saving. And when it comes to big financial goals, such as paying down debt or saving for retirement, which one to focus on first isn’t always clear cut.

If you do have extra funds, how do you prioritize? The good news: It doesn’t have to be an either-or question. It’s all about finding a balance that’s right for you. Here’s how.

1. Review your budget to boost saving and trim debt.

Whenever you set up a budget, include line items for every expense and savings goal, including paying off debt and adding to retirement funds. Even if your contributions each month are minimal, you’re establishing good habits.

Use a household budget worksheet (PDF) to help analyze where you spend and where you can save over the course of a month or two. Review recent bills, plus bank and credit card statements to establish a baseline. And readjust based on spending and saving goals. Think about how you’re really spending your time says Stanley Poorman, a financial professional with Principal®, and you may come up with extra funds. If you’re using fewer minutes on a cell phone plan, for example, you may be able to land a better monthly deal.

2. Save in an emergency fund so you can avoid unexpected debt.

If it would be difficult for you to cover unexpected expenses such as car repairs that require an immediate outlay of funds, make it a goal to build an emergency savings fund. Take it step by step—focus on saving just one month of income as a starting point. Add to it as you’re able.

Having an emergency fund can also help avoid or minimize what Heather Winston, assistant director of financial advice and planning at Principal, calls “bad” debt. “'Bad' debts typically are credit cards or things like payday loans,” she says. “They charge higher interest rates and that can prevent you from getting ahead.”

“Emergency funds can be used for unexpected expenses rather than putting them on a credit card. While debt has a place, using it wisely may serve you better long term.”

3. Save for retirement to get the minimum match from your employer.

Free money sounds like a great way to save, doesn’t it? If you work for a company that offers a matching contribution on a 401(k) or 403(b) retirement plan, that’s essentially what you’re getting.

If you save 5%, for example, and your employer matches it, you’ve instantly doubled your savings. That means $100 saved doubles to $200 saved without any extra budget maneuvering from you.

Work toward increasing the percentage you’re putting in that retirement fund until you at least reach the maximum matching contribution from your employer.

4. Set some debt-reduction goals that help you.

How much debt you have influences all sorts of decisions you make. For example, if you’re hoping to buy your first home or upgrade to a larger home, “carrying too much debt relative to your income may hinder the loan rate you can get,” Winston says. “Prioritizing debt repayment may help in achieving this goal.”

However, that doesn’t mean you should put retirement saving on hold until you eliminate all debt. “Most of us have competing timeframes and goals, so it’s unrealistic to think that you can stop saving for retirement just to make your debt go away faster,” Winston says. “The key is to understand how long it will take to get to that manageable debt ratio and adjust your other priorities accordingly.”

Most of us have competing timeframes and goals so it’s unrealistic to think that you can stop saving for retirement just to make your debt go away faster.”

Heather Winston, assistant director of financial advice and planning

5. Tackle “expensive debt” first.

Just as there is bad debt, there may also be “good” debt. “If all you have are ‘good’ debts like car and mortgage, then you may be in good shape to build on your retirement savings,” Poorman says.

If not, make a list of all your debt obligations and their associated interest rates. Debt with a higher interest rate—say, the typical credit card—should be a priority. “The interest you pay may be higher than the return you’d earn on saving those same dollars,” he says.

Pay more than the monthly minimum if you can. Once you pay off the highest interest rate debt, move to the next loan on your list. When you’re all done? Consider putting that same amount that you allocated to debt repayment toward retirement savings.

6. Accelerate retirement savings.

You don’t have to be debt free to save more for retirement though. It depends on your individual priorities and goals. “It’s about finding the right balance between paying down debt versus saving,” Poorman says.

It can be overwhelming to compare how much you need to save for retirement to how much you’re able to save. Instead, consider small steps which will eventually get you to your goals.

“For example, you can increase your retirement savings each year until you’re contributing at level that gets you to your goal,” Poorman says. That small increase each year is unlikely to make a large dent in your monthly budget, but it will make a long-term positive impact to a more secure retirement.

7. Talk to a financial professional.

To plan for your future, it’s helpful to know where you stand financially. If you’re overwhelmed, ask for help. A financial professional will talk you through your options. Don’t have one? Check with your HR department or employer to see if your company’s retirement savings plan offers this service. Or, we can help you find one.

Next steps

The subject matter in this communication is educational only and provided with the understanding that Principal® and its employees are not rendering legal, accounting, investment advice or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, investment or accounting obligations and requirements.

Insurance products and plan administrative services provided through Principal Life Insurance Co. Securities offered through Principal Securities, Inc., 800-547-7754, member SIPC and/or independent broker-dealers. Principal Life, and Principal Securities are members of the Principal Financial Group®, Des Moines, Iowa 50392. Certain investment options and contract riders may not be available in all states or U.S. commonwealths.​

Principal, Principal and symbol design, and Principal Financial Group are trademarks and service marks of Principal Financial Services, Inc., a member of the Principal Financial Group.