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Nov 16, 2015    |       12 comments

Savings versus Debt

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Just to piggyback on my earlier post….

What do you guys think about this?

Screen Shot 2015-11-13 at 4.35.52 PM

Image from this article.

Apparently the image was originally from a poster on Reddit, who advocated a minimum 3-6 months of savings in an EF as well as a steady 401(k) contribution (up to employer match) prior to tackling debt.

It seems to me based on some recent conversations (occurring inside the comments sections of a few posts), that this is the approach advocated by some of our readers.

Of course, for any Ramsey followers (who, admittedly, is one of the first people to get me into personal finance, although I don’t blindly follow all his teachings; I pick and choose what works for me), this is drastically different than what is recommended. Ramsey’s Baby Steps  advocate (#1) starting with a $1,000 beginner emergency fund. His argument is that most unexpected emergencies are about $1,000 or less, so that should be an adequate fund for most people. In my own debt-reduction experience, we’ve had a handful of emergencies (e.g., emergency root canal, emergency car repairs). All of our emergencies except one have been under $1,000. And the one time we had to raid our EF for over $1,000 was this past August. It was not actually due to any large emergency expense, but due to a lack of income! I don’t get paid in August (just due to normal schedule of payment) and hubs ended up having a no-income month that month (he has a variable income). So, really, I would consider this more of a factor related to variable income rather than due to an emergency, per se.

Ramsey’s next baby step (#2) is to pay off all debt but a mortgage, followed by (#3) going back and re-stocking the EF up to 3-6 months expense.

Obviously a very different approach, right?

What other factors do you think are important?

I think for single people, people without kids, people with low monthly expenses, renters, and people with steady/predictable income a lower EF might be sufficient. I also think it depends on the size of the debt (e.g., will it take 3 months to pay off or 3 years to pay off? I’m more likely to be “ok” with a smaller EF for a short period of time rather than a long one).

I’ve also seen some arguments over what debt should be considered high versus low priority. Some people are okay with student loans and car loans hanging around for awhile, though almost everyone is in agreement that credit card debt should be tackled quickly!  I’m of the mind that I want ALL my debt gone. That being said, I’ve still prioritized my debt such that I have paid/plan to pay: (1) credit cards, (2) car, (3) student loans (4) medical bills. To me, our medical debt that has no interest is way less burdensome than my student loans (mostly at 6.5% interest), even though the overall amount of the student loan debt is significantly larger than the medical debt.

Those are just my thoughts.

How have you prioritized debt repayment savings? And, among your various forms of debt, how have you ordered or prioritized which debt to pay first? Do you do the snowball method (smallest debt first), avalanche method (highest interest first), or some other arrangement (such as the most personally satisfying)?

Personal finance is just that – personal. So I don’t think there’s one “right” or “wrong” answer and I think there are multiple different routes to the same end-goal (being DEBT FREE with a good financial security net). Just curious about your thoughts on the matter!

Nov 16, 2015    |       4 comments

Why It’s (Sometimes) OK to Have a Small Emergency Fund

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I’ve mentioned that I’m keeping a very slim emergency fund (just under $1,000) from now through the New Years. Instead of beefing it up right now back to a place where I feel comfortable (which, for me, is about $4,000ish), I’m putting it off until the New Year.

Last week Matt posted about how his emergency fund (EF) has also taken a dip down to right at $1,000. A couple readers commented on how dangerous and foolish it is to allow such a low EF, and the importance of having a reasonable EF in general (side note:  read the comments, as there were some really great points and an interesting discussion).

I whole-heartedly agree that an EF is of the utmost importance. When trying to get out of debt the first basic step is to stop accumulating more debt! The best way to do that is to pay for things in cash and have a bit of a safety net for any possible “uh oh” situation that would otherwise cause one to take on debt.

What one considers to be an “acceptable” level differs by person. For me, my preference is to have one full month worth of expenses in the bank (about $4,000 for our family’s minimum expenses). I know many financial gurus suggest 3-6 months worth of expenses or even 6-12 months. But, some of those same gurus admit that these figures are after debt has been paid off. While still in the trenches working to eradicate debt (some of) that money is better spent paying down debt! Dave Ramsey suggests that while in debt repayment mode to only have a $1,000 beginner EF. For me that’s a little too low for comfort (again, I prefer one month worth of expenses). But to each their own.

All that being said, I think it’s okay to have a meager emergency fund sometimes.

Here is my reasoning and logic for why I’m sticking with a very small EF right now:

  1.  It’s for a limited period of time. I would not feel comfortable with my current level of EF (under $1,000) forever. But I’m not suggesting I keep it that low forever. I’m just trying to get through the rest of 2015. I have some pretty big financial goals to achieve and I’m working my butt off to try to hit them (or come as close as possible!) I’m planning to beef back up my EF in January 2016, so we’re really only talking about a month and a half of our super slim EF.
  2.  It’s motivating. If you have a slim EF, you work that much harder because you’re motivated to be able to build it back up quickly. It’s uncomfortable to know that you have a super small financial security net, so you may be more likely to cut back further (to save additional money), find things to sell (to make more money), etc. All around, I find it motivating.
  3.  I have a steady paycheck. This is a big one because for multiple years we had a VERY variable income. During that time I would have never allowed our EF to stay at such a small level. But we also depended on our EF for our basic livelihood rather frequently. The situation is different now. I have a secure job and steady pay. If we were to experience an emergency that completely wiped out our EF, we’d still be okay because we continue having a steady paycheck! It would just mean that any funds originally earmarked to go toward debt would be diverted to pay for the “uh oh” situation. I feel a lot of security in knowing I get paid like clockwork every two weeks.
  4. We rent. One of the points brought up in the comments on Matt’s post was that renting is inherently less risky than owning.  Anyone remember the Great Flood we experienced last year at this time? I can’t even imagine how costly that was for our landlord. If a roof needed replacement, an A/C went out in the heat of summer (or heater went out in winter), or some other major expense came up, it could cost many thousands of dollars for repair/replacement. We aren’t in that situation right now, so we don’t need emergency funds to cover any of those hypothetical home-ownership-related problems.
  5. I have other savings. I really love how easy it is to have separate savings accounts for different goals with Capital One 360 (<refer a friend link! If you join, let me know how you like it!) Some people are “groupers” and some people are “splitters.” I’ve always been a splitter. You should see my desk at work – I have a different pile for each task I’m working on ; )  Anyway, I’d hate to have to do it, but if an emergency arose that we were unable to cover through our small EF or income, my next step would be to raid other existing savings. We have savings in all kinds of categories:  Christmas fund, semi-annual fees, dental/health/vision, vet/pet expenses, etc. etc. etc. If something big came up and we needed liquid cash immediately, I’d dive into these funds in order to cover our butts. Yes, I don’t consider them part of our EF (and I prefer to keep them totally separate). But, let’s be real. It’s cash money sitting in the bank. If we need cash, it’s an easy place to go.
  6.  I have credit cards. I know this is controversial because some people are big proponents of cutting up and throwing away credit cards. If you have had credit card addiction problems, then by all means get rid of them! But I’ve been pretty safe on that front in terms of being able to charge something credit and pay it off right away. I still prefer using debit cards because it’s easier for budgeting purposes. However, I use a Wells Fargo credit card for our monthly preschool tuition because of the reward points it earns, and I use a Target credit card anytime I buy gifts (wedding, baby, etc.) because I save 5% and get free shipping (remember, I live in Arizona but most of our friends/family are in Texas so almost all gifts I purchase have to be shipped back to Texas). In addition to that I have 2 more credit cards I never use (they sit in a safe in our home).  In all, I have probably $15,000 worth of credit available to me. This would be a last resort, but if a big emergency came up and we didn’t have the cash (or income, or additional savings) to cover it, I could put it on a card and pay for it the following month. That allows us an extra month to get the money together without it actually being new debt (and it would be paid off before any interest accrues, etc.)

Those are my thoughts on the matter, what are yours?

Have you ever had a small EF for a period of time? If so, how did you handle emergencies when they came up? How much of an EF have you kept while in debt-repayment mode? What’s your minimum threshold? 

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