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Fund Roth or target debt

Question: I'm in the middle of a debate with myself as to whether my wife and I should continue to aggressively pay off a variable 4.5% HELOC or if we should take a chunk of that payment and put it towards a Roth IRA.

We're both in our late-twenties, have emergency funds and a few retirement accounts (IRA and 401k). Right now I'm putting 17% of our monthly income towards the HELOC but am only required to pay the interest (about 2% of our income). My reasoning is that it's a sure 4.5% return but I'm wondering if now would be a good time to start pushing money into a Roth IRA for the tax savings. Thanks, Matt, Minneapolis, MN

Answer: One reason you're going back and forth is that you can't go wrong. Paying off debt is good. So is funding a Roth.

What I suggest is put some money into the Roth, say, $1,000. It could be more it could be less, but invest some sum of money in the Roth.

But I would focus on the debt. I would stay aggressive about paying off the home equity line of credit. For one thing, a 4.5% return on your money in the current environment is decent. For another, your household balance sheet will be much stronger for eliminating the debt.

So, instead of deciding whether to fund the Roth or attack the debt, I would mostly target the debt yet set aside something for the Roth.

About the author

Chris Farrell is the economics editor of Marketplace Money.
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Remember that you fund a Roth IRA with after-tax money, so that investment won't lower your tax bill now, though it may lower your tax bill in retirement (if you would owe taxes then).

Traditional IRAs are funded with pre-tax money, so you would want to fund your current IRA if you want the tax advantages now (but you may owe taxes on it in retirement).

If you're putting 17% of your income into the HELOC now, you should be able to fully fund a Roth IRA and still have many to pay down the HELOC. Paying down the HELOC now may have a higher short term return than a conservative Roth, but the money in your Roth can compound for 50+ years and you can't go back and make it up later due to the $5000/year limit. So I would suggest funding the IRA, then put the extra in the HELOC. Paying off the loan a little more slowly will cost you much less in the long run than failing to allow $5000 to compound over 40-50 years.

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