I am in my late 20s and I’ve truthfully never been interested in my financial affairs. I have an IRA, some cash in the bank and I own my home. My house is worth approximately $250,000 and I have a $230,000 mortgage at four percent. I also have a little over $13,000 in credit card debt. The average interest rate on my credit cards is 20½ percent.
My grandparents plan to gift me $15,000, and they told me they want me to use the money to improve my financial situation. My grandfather is a big fan of yours and showed me a number of your columns and I’m hoping you can help me regarding what to do with the money. I’ve narrowed it down to three main options:
- Complete a Roth conversion. I will be able to convert the great majority of my IRA without being moved into a higher tax bracket and between state and federal taxes, the conversion would cost me a little less than $10,000.
- Invest the money outside of my IRA
- Pay off my credit card debt.
Which option would you recommend?
Obviously, you have very generous grandparents and it’s wonderful that they want to help you with your financial affairs.
In analyzing your options, I believe that the best thing you can do is to use the money to pay off your credit card debt. Since you are paying 20½ percent interest, paying off this debt is like you’re getting a 20½ percent return on your money. In addition, since charge card interest is not deductible, your real return is 20½ percent after taxes. I can assure you that there is no investment that will give you a guaranteed 20½ percent tax free. From purely a financial standpoint, I would pay off your credit card debt.
I love the idea of someone at your age taking advantage of a Roth IRA. The benefit of allowing money to grow tax free for decades is a huge benefit to you; however, it does not offset the 20½ percent you’re paying on your credit cards. However, you may find that there are opportunities to continue to do Roth conversions in the future. Potentially, you can use the money that was allocated to paying the credit card interest to do a Roth conversion.
I cannot stress enough how important it is for adults to take an interest in their financial affairs. I recognize that handling personal financial affairs can be boring; however, it is critical. Mistakes made at a young age can have a lingering impact. Many think that if they don’t have a lot of money, they don’t need to be involved with their finances; that is not the case. No matter the size of the account, you must take an active interest in your personal financial affairs.
Running into problems with your personal finances affects more than your pocketbook; it also wreaks havoc on your state of mind. In other words, it is not good for your mental health nor your physical health to have financial issues. That is why it’s important to take an active role in your personal financial affairs, no matter what stage in life you’re in.
Personal finance is the only hobby I know of where you can actually make money as opposed to costing you money. Therefore, as we close out 2022, everyone’s 2023 New Year’s resolution should be to improve the handling of their personal financial affairs. By taking an active interest, not only will you be able to have more money in your pocket, exactly where it belongs, but also, it’ll help you sleep at night.
Rick Bloom is a fee-only financial advisor. His website is www.bloomadvisors.com. If you would like him to respond to your questions, email firstname.lastname@example.org.