Whether the debt you have is for your veterinary education, your car or a new digital radiography unit, you might wonder whether it is better to pay off your loan early or just keep making your monthly payments as scheduled. In order to make the best decision, you need to consider several factors: interest rate, cash flow, prepayment penalties and your financial values.
Paying off debt is rarely a bad idea. Because loans bear interest, it is best to pay them off as quickly as possible. Those debts carrying the highest interest should be paid down first. Credit card debt typically has a high interest rate, so paying credit cards in full each month is a smart financial move. Over time, the quicker you pay off interest-bearing debt, the more of your hard-earned income you get to keep.
In a business, loan principal payments are made from net earnings. While the interest that is paid is tax deductible, the principal is taxable. This is because when the loan proceeds are received by the company, they are not considered taxable income. Accelerating the payments on your business loan will increase the taxes that you owe that year, so you need to meet this obligation if you pay down debt ahead of schedule.
Determining the best approach with educational loans is complicated. With some of the Federal loan programs, you might lose certain benefits if you pay off the loan early. If your financial situation worsens while you are in repayment, some loan programs will lower your payment or forgive your loans after a period of years. For more information on repaying veterinary educational loans, visit AVMA.org and search for “scholarship loan repayment.”
Minimizing the amount of interest you pay can be important, but having cash flow sufficient to accommodate unexpected expenses is crucial. Do you have an emergency savings fund with enough money to cover your expenses for three to six months?
Funneling some of your income into a retirement account is also essential. If you begin saving for retirement in your 20s or 30s, you will have years of gains that will make the effort much easier than that of those who neglect this aspect of their future until it is on the horizon. You will also want to be able to enjoy your life by having a modest amount of discretionary income.
In a veterinary practice, having sufficient cash flow to meet accounts payable and payroll is crucial, and that can be difficult with the seasonal nature of the equine industry. Utilizing excess cash to pay down debt in the busy months could leave you short in the lean months.
Most loans do not have a pre-payment penalty, but before deciding to pay down a debt, be sure that you will reduce your total interest payment if you pay off the principal early.
Not incurring debt or paying down debt as quickly as possible is a value that some people hold dear. Other people see debt as a tool to maximize their financial reach, and they will often take the longest possible term in order to minimize their monthly payments.
If the debt is used to earn profits higher than the interest rate on the note and the asset has an expected useful life longer than the loan term, this can be a good strategy. An example is the purchase of equipment to provide services that are highly profitable.
It’s important to remember that finances are a very personal subject, and one’s outlook on debt can affect peace of mind. When forming partnerships, it is important to have similar philosophies about debt.
If you find yourself with a little extra cash or you have inherited a large sum, you have a choice of how to use it: Save for retirement? Save for your child’s education? Start an emergency fund? Go on a vacation? Get some new tires on your car? Make a charitable donation? Pay down debt? All of these uses of money have merit, and you need to balance your current needs against the millstone of debt around your neck.
Paying down debt promptly will improve your credit score, making you an attractive borrower for future credit needs. Once you eliminate a monthly payment, you suddenly have that cash available for other uses.