Originally published on TheEconomyForum.com
When you start the process of getting out of debt and building financial security, some experts will tell you to build an emergency account first. These are funds that are only used in the event of a true financial emergency. Other experts will tell you to wait on the emergency account and to instead pay down your debt. Typically, they want you to pay down credit card debt first. Which expert is correct? An expert himself, Mike Hainsworth of Fort Myers gives advice on how to identify your best option.
Both experts are actually right and wrong. It is best to build your emergency fund and pay down debt at the same time if possible. The only time you should not do both at the same time – or could not do both at the same time – is if your funds are extremely limited. For example, after all of your bills are paid, and groceries are bought, you only have $10 left. You could still split the amount and put $5 toward paying off debt and save $5 in your emergency fund. But there are two different schools of thoughts here.
The first school of thought is that if your situation is so dire that you only have $10 left after you’ve paid everything, the best thing you can do is to put that in your emergency fund. You are obviously living paycheck to paycheck and it won’t take much to completely wipe you out. A simple cold or flu that causes you to miss a day of work could literally mean the difference between paying the mortgage or not paying the mortgage.
The second school of thought, however, is that if you pay down debt, as each debt is paid off you have more money to put by for emergencies or to pay down other debts. This makes perfect sense, but if you get ill or your car needs repairs, the chances are good that without an emergency fund in place, you will probably use the credit cards you’ve been paying down to cover the situation. This puts you back at square one.
There is a third option. You could make some drastic changes to your budget and use that money to build your emergency account quickly while using the extra $10 you had before toward paying down debt. You could also go in the other direction; cut the budget and use those funds to pay down debt and put the $10 in the emergency account. You could also, again, split the funds and add to your emergency account and pay down debt at the same time. If you look at the big picture, and all the things that could happen, this is probably the best way to start creating financial security.
Finding additional money in the budget isn’t very difficult. Cut out all paid television and streaming services until at least one credit card or small loan is paid off. Then, you can use that extra money to continue to build your emergency fund and pay off other debts and reopen your streaming accounts if you want to. When trying to find more money in the budget, always start with the entertainment and food categories. You can probably easily find an extra $50 from those two categories.
Finally, whether you pay down debt first or build your emergency fund first, understand that as long as you are working on one or the other, or both at the same time, you are not wrong. The only thing you can really do wrong in this area is to do nothing at all.
About Mike Hainsworth:
Mike Hainsworth of Fort Myers is a seasoned financial professional with entrepreneurship experience. He was the President and CEO of Hainsworth Wealth Advisory in Fort Myers, Florida. His main skills include portfolio management, multi-generational wealth transfer, 529 plans, tax, estate, and insurance planning strategies, as well as high net worth insurance.