EMI vs SIP: Why paying yourself first could save you thousands

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An EMI (Equated Monthly Instalment) is monthly instalment borrowed for loan repayment, interest and principal. An SIP (Systematic Investment Plan) is a regular way of investing a fixed amount at regular intervals in mutual funds. SIP is an option to grow through investment, whereas EMI is a repayment option. Both are very important to personal finance, yet your priority can be a gigantic difference to your financial health and long-term wealth creation.

"Pay yourself first" concept refers to investing part of your income into investments and then other bills, i.e., EMIs subsequently. Saving SIPs before you buy other EMIs can prove to be useful for you because of compounding returns. Wealth that could be more than the loan interest amount gets created by money saved using SIPs over a timeline. This approach can help you to ensure that you are generating financial saving and not merely paying off debt.

EMIs pay off debt and provide peace of mind but do not generate a return. SIPs can potentially generate wealth if invested, but are risky based on the market. If you receive a loan with low interest, you can invest more funds in SIPs rather than an extra EMI. On the other hand, redeeming debt in advance for high interest rates can be economically reasonable. Tipping the balance between the two hinges on comparing interest rates, potential SIP returns, and your financial objective.

When you make an early investment with SIPs, you get the advantage of compounding — returns on your returns. In the long run, this can make you build a huge corpus than investing the same amount towards prepaying loans. For example, investing ₹5,000 every month in an equity mutual fund that offers a 12% return per annum for 20 years can turn into more than ₹35 lakhs. Prepaying a loan earlier with the same amount, however, might save you only a percentage thereof, subject to interest and loan period. It illustrates how "saving first" accumulates wealth over time without affecting loan repayment.

The correct approach is to maintain debt repayment and saving for the future simultaneously. Check your loan interest rate and your risk-taking ability before you proceed. The easy tip is to continue paying regular EMIs while simultaneously investing some part of your free income in SIPs. This way, you are repaying debt while accumulating a financial cushion and making provisions for financial independence.

Depending on your interest rate of the loan and the returns you can earn by using SIPs, investing upfront can be a better idea.

Compounding would mean that you are getting returns on your investment as well as on the returns which have accumulated over time, resulting in value getting multiplied exponentially.

There is a risk of the market with SIP investments, but a prudent blend with direct investments minimizes risks and generates long-term wealth.