With the recent decline in oil, gasoline is cheaper than it's been in years. As a result, you may notice some extra cash in your pocket after you fill up your tank.
Continue Reading Below
We asked three of our analysts for the best way to put those savings to work, and here is what they had to say.
Dan Dzombak: Economists expect the low gasoline prices across the U.S. will mean a 3.5% jump in consumers' disposable incomes. When you have an unexpected windfall the easiest thing to do is to spend the money, they don't call it "disposable" income for nothing. The smartest thing consumers can do with the money they're saving at the pump is to contribute to a retirement savings account.
This is a particularly good option if you can contribute to a 401(k) or similar where you employer matches your full contributions or a portion of them, that's basically an immediate return on your dollars. For example, if your employer completely matches your contribution that is a 100% immediate return on your investment. There is nowhere else where you can find guaranteed returns like that.
The second best option is to contribute to an IRA. Whether you choose a traditional IRA or a Roth IRA, if you haven't taken advantage of contributing up to the limit of $5,500 (or $6,500 for those over 50), now is a good time to do so. By putting away your extra windfall now, your future self will thank you.
Leo Sun: Most people should deposit the extra dollars saved at the pump into a "rainy day" fund. This can be done by recording the amount spent on gasoline per month, then matching a large percentage of that amount with a deposit into a savings account.
This is important because many Americans have alarmingly low savings. Half of millennials have a net worth less than $10,400, according to the Federal Reserve's Survey of Consumer Finances. The average retirement-age American only has around $100,000 socked away for retirement, according to the National Institute on Retirement.
Now consider how much "rainy day" scenarios can cost. A single ambulance ride to the ER can cost well over $1,000, and a prolonged hospital stay can cost thousands more. An average funeral in the U.S. costs around $6,600. The loss of job or the death of a primary breadwinner can cost thousands per month.
According to the U.S. Energy Information Administration, in high gas price years like 2008 and 2012, the average American household spends nearly 4% of the pre-tax income on gas. In low gas price years like 1999 and 2014, it can drop to around 2%. Socking away that extra 2% of your income in a rainy day fund can prove useful in emergencies.
Matt Frankel: I wholeheartedly agree with Dan and Leo that contributing to an IRA and starting an emergency fund are great goals, if you are ready to do so. What I mean is, if you owe any money at high interest rates, such as credit card debt, it should be priority number one.
Before you do anything else with your extra cash, it's very important to get your credit card debt under control. For sake of argument, let's say that you have $1,000 in extra cash this year in your budget as a result of the lower-than-expected gas prices. And you're trying to decide between investing it and using it to pay down your debts.
If you have $1,000 in credit card debt at an 18% APR, you'll end up paying $180 per year in interest, assuming your balance stays around the same amount. Even if you are an excellent investor and can produce returns of 12% per year (not likely on a consistent basis), you'll only see $120 in annual gains from your $1,000 investment.
In other words, you'll actually lose $60 by choosing to invest the money instead of paying down your debt.
Credit card debt, aside from being very expensive, is actually very counterproductive to your long-term financial goals. For an investment strategy to truly be successful, you'll need to get rid of the high interest you're paying other people before worrying about your own investment returns.
The article The Smartest Thing Consumers Can Do With the Money They're Saving at the Pump originally appeared on Fool.com.
Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
Copyright 1995 - 2014 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.