First off, a big thank you to The Consumerist and The Simple Dollar and others for linking to my article on seven prudent things to do with a small windfall. I'm glad you found it worthwhile!
The Consumerist linked to an article on CNN Money that discussed this issue as well. Walter Updegrave gave advice to a reader who had an extra $3,500 to jump-start something worthwhile. He could either pay down an $8,000 credit card debt, or start a Roth IRA. Both of these are quite prudent, and both are good responses to this influx of cash.
Updegrave's advice was to start the Roth IRA, despite the likelihood that paying down the credit card balance would, by itself, give a greater return on that $3,500 in the form of interest savings. I can see his point in giving this advice, and for some people it's better to make the money less accessible, even if there's a lower return.
It boils down to whether you need extra help in achieving the discipline needed to accomplish your financial goals. This statement is not meant to be scolding or finger-pointing. It's actually the opposite. If you've recognized that money burns a hole in your pocket and it's as good as gone when you have it, then socking that money away in a retirement account which has penalties for early withdrawal is a good way to help you stick to your savings plan. It's a very good thing actually, and as long as you know why you're doing it, I'll cheer for you (and a lot of other folks will, too).
On the other hand, if you've been following a debt reduction plan, are seeing visible progress, and are comfortable with how you think about money, then it make sense to put your money to work when it's treated the best, regardless of whether you have easy access to it or not. Paying down credit card debt probably has a higher effective rate of return, and putting the whole $3,500 would almost certainly cut the payoff time of that $8,000 balance to less than half of what it would have been, assuming that the same payments were made as before the windfall came.
Either way is a good way. As Trent said, though, please don't just blow it! 😉
At first I couldn't figure out how he could spend it after paying of the credit card. Then I realized. I suppose that means I'm psychologically suited to do either. Thanks for the tip!
That's a good point on the personality issues. It's definitely something to be aware of! For instance, I'm much better at repaying things than saving up for them. Knowing that, I won't put debt on a credit card, but I do take advantage of the way our household finances work.
I'm very much an out-of-sight, out-of-mind kind of person, though, so either solution would probably work well for me.