Calculate whether it's better to use spare money to save or pay off debt. Compare interest rates to find the mathematically optimal choice for your finances.
The core principle is straightforward: if your debt costs more in interest than your savings earn, paying off the debt delivers a better financial return. A credit card at 24.9% APR costs £249 per year on every £1,000 of balance. A savings account at 4.5% AER earns £45 per year on every £1,000 saved. Paying the debt wins by £204 per £1,000 — a guaranteed, tax-free return.
| Debt Type | Typical Rate | Priority |
|---|---|---|
| Payday loans | 300–1,500% APR | Highest — pay immediately |
| Credit cards | 20–30% APR | Very high |
| Personal loans | 6–20% APR | High if >savings rate |
| Car finance (PCP/HP) | 4–14% APR | Medium |
| Student loans (Plan 2) | RPI+3% | Low — usually ignore |
| Mortgage | 4–6% | Low — consider investing instead |
Mathematically, if your debt interest rate is higher than your savings rate, paying off debt first gives a better return. A credit card at 24.9% APR costs far more than you can earn in a savings account at 4.5%. Always pay off high-interest debt first. However, keep a small emergency fund (£500–£1,000) even while repaying debt, to avoid needing to borrow again for unexpected costs.
A small emergency fund is worth keeping even with debt. Without savings, an unexpected car repair or boiler breakdown forces you back into expensive borrowing. Most financial advisers recommend a £1,000 starter emergency fund before aggressively paying down debt, then building to 3 months expenses once high-interest debt is cleared.
Prioritise by interest rate (the debt avalanche method): pay off the highest-rate debt first while making minimums on all others. Typical UK rate order from highest: payday loans, credit cards (20–30% APR), personal loans (6–20% APR), car finance (4–14%), mortgages (4–7%). Alternatively, use the debt snowball: pay the smallest balance first for psychological wins.
The recommended order is: (1) build a £1,000 starter emergency fund, (2) pay off high-interest debt (credit cards, payday loans), (3) build emergency fund to 3 months expenses, (4) invest. This balances the emotional security of having some savings with the mathematical benefit of clearing expensive debt quickly.
With mortgage rates at 4–5% and long-term stock market returns averaging 7–10% annually, investing often wins mathematically if you are a higher-rate taxpayer with access to a pension (tax relief boosts returns). However, paying off the mortgage offers a guaranteed risk-free return and emotional security. Many people split spare money between both, especially as they approach retirement.