Expert: Gina Boykin - 1/15/2009

Question
I have recently come up on S11, 000 and I am still making payments for an auto loan (in which I still owe 10,000). I am in the military right now and I will be getting out in a year and half. My question for you is:

1. Do I payoff my auto loan right now and be debt free.

2. Or improve my bad credit (I kind of got a rocky credit history) by establishing a consistent payment history and put the S11k in a CD or money market, then payoff the remaining balance when I get out of the military (I want to get out of the military debt free).

Thank you,
Daniel


Answer
I have one other question for you that will help determine the answer to your question.  Do you have an emergency fund in place (with at least 3-6 months of living expenses)?  You may not need the full 6 months since you are in the military and the primary reason for this fund is job loss, however, the fund is also in place so that you don't have to turn to debt or get behind on your bills if something unexpected happens (car problems, medical expense, major home appliance breaks, etc).

If the answer to that is "yes", then paying off your car now will do two things: it will save you money because you don't have to pay interest over the next year, and it will improve your credit.  Remember, part of your credit score is determined by the amount that you owe.  Having less debt will improve your score, just like paying timely.

If you don't have enough money in an emergency fund, I'd add to that first.  If you still some of the $11K left after that, then put it toward the car.

The emergency fund money should be in a savings account, money market, or short-term CD.

If you want to see the effects on your credit score of paying off the loan or not, you can also visit sites such as www.creditkarma.som which has a credit simulator.