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Emergency Savings or Credit Card Debt First?
I have been paying extra on two credit cards, and I like to see the balance go down. If I want to build savings like Dave Ramsey suggests ($1000), I would have to reduce payments to the minimum for about seven or eight months. What do you suggest? Should I attack the credit cards or be safe and build emergency savings?
Pay Minimum on One and Save Difference
I would pay the minimum on the one with the lowest interest rate. Pay extra on the one with the highest interest rate and start the savings with the extra money. Without a savings, you'll never break the habit of using the cards. In an emergency, you'll have no choice but to use the cards. If possible get a temporary part-time job or sell "stuff" to help build up the savings.
Definitely Emergency Savings First
If you are following Dave's program, you know to save the $1000 first! Make minimum payments to the credit cards and have a garage sale, sell stuff on eBay, get a part-time job, work overtime, etc. to get the $1000 fast. If you don't have the emergency fund, "Murphy" will come knocking at your door. The emergency fund is your cushion so that if an emergency happens, you aren't going back into debt.
Compare Interest Charged Vs. Interest Gained
When you compare the interest charged on your credit card to the interest gained in a savings account, most experts agree that you should pay your credit card off first. You may have a few setbacks if emergencies do occur, but in the long run, you will save more money by paying down your credit card first.
Suggestion for This Common Question
You ask a question about emergency savings and credit card debt that most of us face. While some may disagree, I suggest you:
- Put your credit cards away. Lock them up and promise yourself not to use them. Pay cash or pass on your purchases.
- Organize your credit card bills in descending order based on the card's interest rate, putting the highest interest rate card first and then the second highest, etc.
- Plan to make minimum payment to all except the one with the highest interest rate.
- Pay as much as you can toward the card with the highest interest rate until this card is paid off.
- Repeat with the card that was the second highest. (At this point, it will be the one with the highest interest rate.)
- As the last card is paid off, put what was your credit card payment into your savings account. Try to build this account to equal at least eight months of your basic living expenses.
Stop the Vicious Cycle
Unless you can pay the credit cards off completely within a few months by paying the extra, I'd go for the emergency savings. If not and an emergency comes up, you'll have to use a credit card to pay for the emergency, and then pay interest on it too. That's a vicious cycle.
Lisa C. in Portland, OR
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