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Invest or pay off debt?

By Sheyna Steiner ·
Wednesday, November 24, 2010
Posted: 8 am ET

'Tis the season for bonuses -- for some lucky workers -- and that begs the question of what to do with that bundle of cash: invest it or pay down debt?

Some extremely fortunate employees at Queensland Nickel in Australia won't have to worry about that, as their $10 million worth of Christmas bonuses were delivered in the form of brand new Mercedes or trips to Fiji. Even newer employees were gifted domestic trips, reported Nov. 21.

Though most American workers aren't pinning their hopes on corporate largesse, some will be getting bonuses this year; at Google, for instance, news of raises and tax-free bonuses was leaked earlier this month.

Workers on Wall Street will also be getting bonuses this year, up overall by 5 percent, according to a survey by compensation consultants Johnson Associates.

So if you're among the happy minions receiving bonuses this year, you may already have that money mentally spent on any number of pressing expenses, or it could be earmarked for a well-deserved treat.

But there's a good case to be made for making the most of a bonus and paying down debt or investing it. While the joy you'll feel from a restful vacation cannot be quantified, the savings from paying down debt or the earnings from investments can.

Debt should be cut down first and foremost.

"There's no way you can make the same amount in the world's markets that it will cost to maintain that debt. Imagine your rowboat is leaking at 36 percent and you're bailing at 11 percent. You're going to sink," says Frank Armstrong, Certified Financial Planner, president of Investor Solutions in Coconut Grove, Fla.

Paying down debt "is the best investment you'll ever make," he says.

Use Bankrate's credit card calculator to find out what it will take to pay off the plastic for good. Or use this calculator to find out exactly how much those debts are costing you.

If you're living the debt-free life, it is hoped that you have an emergency fund.

Louis Berger, principal and co-founder of Washington Square Capital Management in New York, N.Y., recommends building an emergency fund of three to six months' of living expenses.

"It's important to note that this fund should be liquid, not invested in mutual funds or CDs," he says.

If your emergency fund is in place, increase your retirement plan contributions.

"If your budget is tight and you don't think you can spare putting too much away, remember there are penalties for early withdrawal," Berger says. "Put in an amount that you are most comfortable with.  Or start off with a small percentage and increase that percentage later, once a comfort level is reached."

This calculator will show you what it will take to reach your investment goals.

Are you expecting a bonus this year? If so, what will you be doing with the money?

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November 25, 2010 at 10:34 am

I will be taking my tax return coming in February 2011 (about $8000) to pay down my loan balance on my car to around $10,000. Reducing interest on non-tax deductible loans is key. I also pay about $250/mo extra on my mortgage as well.