by Gary Foreman

If you’re over 50, you’re probably looking for ways to boost your retirement savings as much as possible during the final few decades until retirement, especially if you got a late start saving. But what if you also carry a significant amount of credit card debt? Is it better to reduce your 401k contributions and pay down your debt as quickly as possible or save as much as you can for retirement and pay down debt gradually?

While there’s probably no one answer that’s right for all situations, let’s see if we can’t put together a plan that will work for most people. The following guidelines can help you determine which you should prioritize: your 401k or credit card debt.

401k or Credit Card Debt? Some Questions To Answer

How much income do you have remaining after all bills are paid?

We’ll start at the beginning. Before you can decide where you want to go, you need to know where you are. Perhaps you already have a clear picture of your income and expenses. This information is a vital part of any successful plan. If you don’t know how much monthly income you have after paying your bills, figure that out first.

What opportunities are available to you?

Next, you’ll need to consider the different opportunities open to you. After your monthly bills are paid, you have some options. You can continue to pay off your credit cards. Or you can add money to a retirement account. Each individual will have different options available to them. What’s best for you?

Let’s consider the purely financial aspects. You need to look at each choice individually and try to figure out how much money you’ll make if you take that option. The goal is to calculate a rate of return over a logical number of years. The next few questions will help you do that.

What would paying down the debt look like?

For instance, suppose your credit card balance has an 18.9% APR. Any money you pay above the minimum will, in effect, earn an 18.9% return for you. That return will be the same each year until you have that particular credit card paid off. If you have other cards, the return will be the interest rate on those cards you’re paying off.

What would contributing to a 401k look like?

Another option would be to put the same amount into your 401k. The money you put into your 401k is not subject to income taxes. Since tax brackets are tiered, for this example, we’ll suppose you save 15% on taxes on your 401k contributions. You would save $150 in taxes for every $1,000 invested. So you make 15% before you even invest the money.

Sounds like a good deal. In addition, any money earned within the plan isn’t taxable until you take it out of the plan at retirement. If your employer offers a contribution match, that won’t provide you any immediate return like the tax savings, but it can make a significant difference in retirement as you’ll see in the example below.

Is There a Way To Compare the Financial Benefit of 401k Contributions to Paying Off Credit Cards?

Yes, as a matter of fact, there is a way that you can estimate a comparison without getting into some crazy math. It won’t give you an exact answer, but you will be in the right ballpark.

You know what you will earn by paying off your credit cards. It will be the rate of the highest card outstanding. Suppose it’s the 18.9% card from the example above. Let’s assume that by paying more than the minimum, you can pay that one card off in a year. If, however, you put the extra payments into the 401k plan, we’ll assume it will take you five years to pay off the balance.

What will you earn over the five-year period? To calculate that, multiply the rate per year (8%) by the number of years (5). You’ll need to add in the tax savings based on the tax percentage for your income that you get the first year, too. We’ll assume the same 15% from the example above. So your total is 55% (8% x 5 = 40% plus 15%). That’s 11% on an annual basis (55% divided by 5 years).

Suppose your company matches your contribution at the rate of fifty cents per dollar you contribute. What then? You just add that into the calculation. Your return would be 40% (8% x 5 years) plus 15% plus 50% or a total of 105%. That works out to 21% per year (105% divided by 5 years).

In this example, if your employer does not match contributions, you get a better return by paying off the debt. Depending on your employer’s 401k match, it could provide a better return than paying off your debt quickly.

I’m sure that a number of you are saying that we didn’t include the effects of compounding. And that’s true. But this is just meant to be a quick way to estimate which gets the better return. If you need real accuracy, there are financial calculators available online that can get you to the exact return.

Another Important Consideration Before Deciding: How Do You Relate to Money?

Another thing to consider is how you relate to money. Are you disciplined enough to keep paying more than the minimum on your credit cards? And once you’ve reduced your balances, can you refrain from running them up again?

If not, you might need the discipline of the 401k contribution. It’s deducted from your paycheck before you see it. That way, it’s like you never had the money at all. Remember, our comparison assumes that you do, in fact, pay off the credit cards. If you don’t, your return is 0%, and you’ll do better by putting the money in the 401k.

There’s another psychological advantage to reducing your credit card balances. You’ll feel like you’re achieving your goal as the balances drop. Each time you complete paying off a card, you’ll be inspired to continue your quest.

Related: The Importance of Managing Debt as You Near Retirement

One Final Thought

Sometimes it’s hard to make a decision. But doing nothing in this case is the worst decision you can make. You won’t be saving for retirement or reducing your debts. If you just can’t make a decision, put half of the available money into a retirement account and half into repaying debts. At least you’ll be moving towards your goals.

Once your credit cards are paid off, regardless of how long it takes, use the extra money for retirement savings. Increase your 401k contributions or put that money into an IRA — or perhaps do both. Both a 401k and IRA allow catch-up contributions for those over age 50, allowing you to put more into your retirement accounts each year than you could before turning 50.

• Managing Your 401k In Your 50s
• Could Debts Ruin Your Retirement?
• When You’re Really Late to the Retirement Planning Game

Reviewed February 2024

About the Author

Gary Foreman is the former owner and editor of the After50Finances.com website and newsletter. He's been featured in MSN Money, Yahoo Finance, Fox Business, The Nightly Business Report, US News Money, Credit.com and CreditCards.com.