Should you pay off a 5% loan or invest?
Paying off a 5% loan earns you a guaranteed 5% return — no market, no risk. Investing offers a higher expected return (~7% in stocks) but with real risk. So the decision comes down to one comparison: 5% certain vs ~7% risky.
The rule of thumb, and where it breaks
A useful default: pay off any loan above about 6–7% before investing in a taxable brokerage, because few investments reliably beat that after tax and risk. Below that, investing tends to win on average. But the rule bends:
- Guaranteed beats risky. The loan payoff has zero volatility. Getting the same expected return in the market requires taking real risk — a bad decade can wipe out the paper advantage.
- Taxes and match come first. A 401(k) match (~100% instant) and tax-advantaged space usually beat both paying off a moderate loan and taxable investing.
- Behavior and cash flow. Clearing a loan frees up monthly cash and removes a psychological weight — worth a lot even when investing edges ahead on a spreadsheet.
Where your rate sits on the line
The whole decision is one comparison — your guaranteed rate against a ~7% expected market return — so it is worth seeing the entire ladder at once. On $50,000 over 30 years, 7% is the dead heat, and 8% is the first rate where clearing the debt clearly beats investing:
| Loan rate | Worth of paying it off | Worth of investing | Ahead by |
|---|---|---|---|
| 3% | $121,363 | $380,613 | Invest +$259,250 |
| 4% | $162,170 | $380,613 | Invest +$218,443 |
| 5% this page | $216,097 | $380,613 | Invest +$164,516 |
| 6% | $287,175 | $380,613 | Invest +$93,438 |
| 7% | $380,613 | $380,613 | Dead heat |
| 8% | $503,133 | $380,613 | Pay off +$122,520 |
| 9% | $663,384 | $380,613 | Pay off +$282,771 |
| 10% | $872,470 | $380,613 | Pay off +$491,857 |
| 12% | $1,497,996 | $380,613 | Pay off +$1,117,383 |
| 15% | $3,310,589 | $380,613 | Pay off +$2,929,976 |
The payoff column is a certainty; the investing column is an average outcome with real risk around it. A tie on this table is not a tie in practice — the guaranteed side wins ties.
This compares a guaranteed loan rate to a risky ~7% expected return; it isn't tax advice. High-interest debt (credit cards, many personal loans) should almost always be cleared before investing. Model your full picture in the calculator.
The payment you erase changes your baseline
Around the middle of this range the arithmetic gets close enough that the non-math effects deserve real weight. Retiring a loan does more than earn its rate; it removes a required monthly payment for good, and that lowers the income you need to cover every month afterward.
That lower baseline is quietly valuable. A smaller set of fixed obligations means a job loss, a health setback, or a lean stretch is easier to absorb, because your must-pay number is smaller. It also compounds behaviorally: many people who clear a debt redirect the freed-up payment into saving, so the real return includes a habit that is hard to price but easy to feel.
- Investing keeps the money liquid and working, but leaves the payment on your books.
- Paying off frees cash flow and lowers your break-even, at the cost of tying money up in the loan.
Neither is wrong. If flexibility and a lighter monthly nut matter more to you than squeezing out the last bit of expected return, being debt-free is a legitimate answer.
Common questions
Should I pay off a 5% loan or invest?
At 5%, investing usually wins on average because a diversified ~7% expected return exceeds the 5% guaranteed by paying off the loan — but the payoff is risk-free, so it's a close, defensible call either way.
What loan interest rate is worth paying off before investing?
A common threshold is about 6–7%. Above it, paying off the loan is a hard-to-beat guaranteed return; below it, investing tends to build more wealth on average. Always clear high-interest debt (credit cards) first.
Does paying off debt count as a return?
Yes — eliminating a 5% loan is economically identical to earning a guaranteed, tax-free 5% on that money. That's why high-rate debt is one of the best "investments" available.