The great debate: paying off debt vs. stashing cash for emergencies

Michelle Singletary
Columnist September 23, 2013

This online feature may include questions adapted from my weekly live chat. It’s also an opportunity for me to answer questions I couldn’t get to during the discussion. I may also respond to questions you send by e-mail to (colorofmoney@washpost.com), Twitter (@SingletaryM) or Facebook (www.facebook.com/MichelleSingletary.com).

Michelle Singletary writes the nationally syndicated personal finance column, “The Color of Money.” View Archive

During one of my recent online chats, I got involved in a debate with a reader about the need to have an emergency fund while paying off debt. Here’s how the discussion went:

Q: What is the value of having $500 in the bank if you have several thousand dollars in credit card debt? Wouldn’t that $500 be better used to pay down the credit cards? In an emergency, the credit card can be used to pay the bill.

Singletary: You are in debt and your answer to an emergency is to get into more debt by paying for the emergency with a credit card?

You need a stash of cash so that if an emergency comes up you don’t put yourself further into a financial hole. I wouldn’t suggest keeping thousands of dollars in an emergency fund if you have major debt. But you need to keep enough cash so that when life happens, you aren’t using debt to bail yourself out.

Q: But let’s say I can save $50 per month for 10 months to create a $500 cash emergency fund or I can pay $50 per month extra on the debt payments and get out of debt faster. I don’t see how not using the money to pay off the debt would be helpful.

Singletary: You need some savings.

Period.

Yes, that means delaying paying down or off your debts. One of the problems I have with people in debt is that they now don’t want to take the time to pay off the debts. It takes time.

I recommend you slow down some of the debt payment to build up a cash emergency fund. Then when you have the fund filled up, use all the extra money you have to aggressively pay down the debt. So if you have $50 extra month, take $10 or $20 to build up your emergency fund.

In the end, you can do what you like and hope and pray nothing ever goes wrong financially while you are getting out of debt. Or you can take the advice of someone who has gone though this with hundreds of people trying to get out of debt. You are grown. Your choice.

A: I’m still confused. If you have debt that would be wiped out by using your emergency fund, wouldn’t it be better to get rid of that interest on the debt each month by paying it off and hoping you don’t need the emergency fund as you build it up again. If you pay it off now with your emergency fund, you might be able to be debt free now and for the future (fingers crossed). Can you explain more what I’m not seeing?

Singletary: “Hoping.”

“Fingers crossed.”

It’s this type of thinking that prevents people from being prepared for an emergency. They hope nothing ever goes wrong. But things do go wrong. Emergencies do happen even when you’re hoping they won’t and even with your fingers are crossed.

But don’t take just my word. Here are some comments from other readers who joined in on the debate:

Pro emergency fund: For the person asking why they should save $500 instead of paying on the debt, what Michelle suggests is smart. If during the next 10 months you have an emergency that costs $500, and you don’t have it in savings, you’ll have to put it on a credit card. Then your $500 debt becomes $1,000. This way, you have $500 in savings and continue to pay down the $500 on your credit card.

Pro emergency fund: It’s the psychology of it that is important as well. Get out of the habit of using credit by having some cash to pay for unexpected items. Also, by not adding additional charges to the debt burden, one becomes less likely to think, “Oh, forget it, I’m never going to manage to pay that all down, so why bother trying?”

Pro emergency fund: I used to be one of the “pay the debt first and forget the emergency fund” people. Yes, it’s in your financial best interest to pay down the debt and forget the fund. But, to some (if not most), being in debt is like being an addict. Once you start putting money on a card, you put a little more on next month and then, boom, you’re in debt again.

In the end, the reader who couldn’t see the need for an emergency fund graciously conceded.

Emergency fund convert: I know you’re right about the emergency fund/paying off debt -- especially because of the psychology. You’re right, I can be really hardheaded and terrier-like!”

Follow me on Twitter at @SingletaryM, or connect with her on Facebook at www.facebook.com/MichelleSingletary.com.

Readers may write to her at The Washington Post, 1150 15th St. NW, Washington, D.C., 20071, or e-mail michelle.singletary@washpost.com. Personal responses may not be possible, and comments or questions may be used in a future column, with the writer’s name, unless otherwise requested. To read previous Color of Money columns, go to postbusiness.com.

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