Debt, Savings, and the Balance Are Not One Size Fits All
If there is one thing I’ve learned through my very public journey out of debt and towards being a financially responsible individual, it is that getting out of debt, or even just improving your financial health in general, is not a one-size-fits-all proposition. Although there are several popular approaches, and some are more successful, on average, than others, doesn’t mean there is simply one prescribed way to go about it.
Last week I asked how the current economy is affecting people’s outlooks on paying down debt (if they have it) versus saving money. I got a wide variety of answers, with some feeling that debt elimination was their best bet, some saving everything they could, and many in between. Over 18 months ago, when I started blogging about getting out of debt, I was very committed to paying off debt as fast as possible, and threw every penny we had at it. I did, grudgingly, save a $1000 emergency fund, so I wouldn’t have to create new debt to deal with an emergency. And over time, I saw the wisdom, for us, of having that emergency fund. We had to use it several times to deal with house, medical, and auto-related things that happened.
And now, for us, I see the necessity of an even larger emergency fund. But I’m still not, after all this time, accustomed to the idea of saving money “just in case” without a clear defined purpose in mind. I’ve tried to tell myself the clear defined purpose is “an emergency” but my brain isn’t accepting that. I’m looking at our budget and trying to find the money to raise our emergency fund from $1000 to $2500 but it is making me cranky. I want to throw that money at my student loan. But no matter how many times I am told a $1000 emergency fund is the right thing to do while you are aggressively paying off debt, I know that isn’t working for us any more.
The idea of saving $1500 a month towards a new car (although it seems kind of impossible to accomplish) doesn’t bother me as much, for some reason. At least, not yet (but of course I haven’t started doing that yet, so it might irritate me too). It has a designated purpose, after all. My brain is an odd place.
Debt elimination isn’t an exact science, and the process is not one size fits all. With trial, error, and an open mind to evolving as things change, the path that works for you can be found. Be open to change. Don’t blindly follow the same path even when everything else changes, unless that path still fits your situation.
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January 12th, 2009 at 11:34 am
Well said. My family does a lot of “just in case” saving and even then when “just in case” comes along, I find myself battling the desire to hold onto my money and to know that sometimes you just have to spend it, like it or not. It would probably be easier if we had it broken up into “car emergency” “house emergency” and “health emergency” or something of the like. The numbers would be the same but the psychology behind it matters too.
The advice to not just blindly follow a path is sound. We all have to find what works for us and be willing to make changes along the way when it’s not working anymore.
January 12th, 2009 at 12:50 pm
Great Post. It is very true that unfortunatly theere is no magic bullet. Especially in today’s environment.
Everyone is different, and there may be different answers for different people depending on their situation.
January 12th, 2009 at 1:16 pm
It’s funny to read this, because I battle the opposite thought process. My savings makes me feel more secure, and the more we have, the safer I feel. I’ve taken a balanced approach to debt and savings. We pay double our minimum payments on debt, and save the rest. Any unexpected income always goes to savings.
Once we’re settled in a home in a place where we want to stay for a while and a great income, I plan to attack our student loan debt aggressively. For now, we’re getting out of debt slowly, and preparing ourselves for the future.
Thanks for sharing your perspective! It’s interesting to read how differently other people view it!
January 12th, 2009 at 1:17 pm
What a fascinating peek into your brain. Emily has a great suggestion for labeling the EF. At least that way it would have a name and it wouldn’t be so unknown.
Personally, I’m more like Sharon Ramsey (Dave’s wife). We have an emergency fund for our emergency fund because I NEED it for security.
Your brain may not need it for security. You’ve proven yourself to be resourceful in overcoming emergencies in the past and maybe part of your thinking is that you can always overcome somehow.
Thanks for the insight.
Rita
January 12th, 2009 at 1:53 pm
Great post esp. for driving home the message that what works for others may not work for you and be aware that your priorities may change.
For where I am in my life now, it’s more important for me to pay down debt. I am in great heatlh and don’t forsee an emergency anytime soon. Thankfully, I have an interest-free overdraft facilifty that, if needed, may act as an emergency fund. I’m happy to freze debt reduction as and when necessary to deal with saving more or addressing an emergency, but for now I’m focused on becoming debt-free.
January 12th, 2009 at 2:16 pm
We have a large emergency fund. Big enough that we could pay off the credit card and the car but I need to have the EF in place. Now I am focused on getting rid of my car payment but I’m not willing to take it from the EF especially in this economy with only a one income household.
I agree everyone has to do what works best for them. The important thing is to DO SOMETHING.
January 12th, 2009 at 3:08 pm
You said it! $1,000 is not enough for us. We’ve had emergency expenses far exceed $1,000, so I know it’s not enough. Unfortunately, we’ve been hit with major unexpected home and car repairs three months in a row, and we’re really in trouble now. I think our debt repayment is going to have to wait a month or two until we can get back on track.
January 12th, 2009 at 3:23 pm
Time itself is a factor also - What worked for me three months ago doesn’t cut it now.
I was laser-bean focused on paying off my credit cards for over a year. It was the only thing (at least in my financial world) that mattered to me. I stressed over it continually until I finally knocked them out one by one. The end of my credit cards didn’t provide any form of relieve though - I just found something new to worry about - the EF.
I probably stress over my lack of EF as much, if not more, than I did my high credit card balances. It’s kind of funny when I think about it. A year ago, I had over 10,000 worth of high interest debt and absolutely no savings outside of my 401K. Today, I have no credit card debt and a couple of thousand in my savings. Yet all I can think about is “Oh my god! My EF wouldn’t get thorough a month! What will I do if [Insert Emergency Here] happens?! I’ll be screwed! IT’S THE END OF THE WORLD! SOMEONE HELP ME!”
My lack of an EF was alright in January 2008, but it’s a major stress point in January 2009. One size doesn’t fit all - and the size you wore last year or just six months ago may no longer fit either.
January 12th, 2009 at 4:16 pm
Call the EF what you need to (car savings? health savings?), but save one
We also lump our car savings and medical savings, etc in that same account, but in a one income family not having that emergency fund could be catastrophic if your spouse is laid off.
My husband recently chose to be unemployed for 7 weeks (had a terrible, high paying job and found a great new average paying job that didn’t start for 2 months. I told him to get the heck out). I’ve found that even though we chose to do this and we were able to not even touch the emergency fund (due to him making so much money the 3mnths before he quit) I’m much more hyper aware now of making sure we’re covered!
Interestingly, I don’t think I worried about money a single time while he was home - but only because we weren’t spending EF money!
He’s back at work now as of Jan 5, but as I sat down to plan budget for Feb, I discovered that I was no longer ok with 6 months cash. I want BOTH car funds filled too. Two years ago we had $3k in savings and $40K+ in debts! Didn’t bother me at all then.
It’ll be interesting to see if after your debt is paid off your security gland kicks in. I’ve found mine gets stronger the closer we get to having all our funds filled!
January 12th, 2009 at 4:19 pm
That’s so true… When I lived in an apartment, it was no problem paying off student loans and I never even considered putting money aside. But now that I’m a homeowner and have a dependent (my dog
), I HAVE to have an EF. I think how much you keep in an EF also depends a lot on the responsibilities you have. I could imagine living on the streets myself, but not my beloved fido.
January 12th, 2009 at 5:36 pm
Ah, this was what had me in a conundrum last week when you asked about an EF! I had to stop myself from creating about 5-6 more savings categories at ING because I cannot see car maintenance or even predictable “emergencies” as being paid from an EF. I don’t see them as emergencies, really. Same with medical expenses. The problem is predicting how much that category “stuff happens” is going to cost. Do you need to have separate categories for each potential expense, or just a single fund, maybe equal to the deductibles of insurance?? I don’t know. Obviously cars, houses, humans have a lot of potential for disaster
Then there is the bigger issue: do you have money to live on for X period of time? That’s a whole other issue, and what many financial advisors talk about being your EF.
Anyhow [thinking out loud], given that there are predictable unpredictables, you could always look at past experience as your guide, and simply maintain the amount you might need at one time/month/whatever for an event. Then I would guess factor in how long it takes to rebuild that amount; the idea being you’d always have enough to cover one crisis plus a tiding over until you can rebuild. The premise is to always having “enough” for one more emergency, so you’re never caught short. At least that’s my thinking –today, may change tomorrow. Christmas night we spent over $300 at the Pet ER! Argh. Didn’t see that coming! So now I have to add potential pet crisis to the mix…
Great post.
January 12th, 2009 at 6:59 pm
You really hit the nail there–the psychology of money.
I liked the previously mentioned post of creating a few emergency fund sub-categories. Putting some money into each might feel more purposeful and help with the mind over matter feeling you are fighting.
If you find $150 to use in the budget and you decide that $50 goes to Emergency (A) needs, $50 goes to Emergency (B) needs, and $50 goes to student loan, it may not seem as hard. Contrast how you feel about using the $100 to make the EF increase to $1100 vs. the 100+ amount you would have been able to throw at your loan payment. I guess, I’m trying to say that seeing only$1,100 in the EF as the end result doesn’t feel as psychologically satisfying as knowing that you reduced the oppressive debt by $100. With the breakdown approach you are paying yourself (peace of mind with increased EF + increased interest paid to you) and paying yourself (peace of mind with decreased debt + decrease of interest you are paying over time). Win-win.
January 12th, 2009 at 9:26 pm
Regarding the idea of having money in an emergency fund with no set purpose assigned to it… I don’t know if you have them in the States, but in Australia many people have an offset mortgage, where the mortgage is linked to a savings account and the amount in the savings account is taken off the total owing on the mortgage when calculating interest. Your money doesn’t earn interest, but it does mean you pay off your mortgage faster, so perhaps psychologically this would make you feel like the EF was ‘doing something’.
January 12th, 2009 at 10:40 pm
We’ve had three emergency funds building, though we didn’t realize it until my job was abolished in a September downsizing. One is the just in case money that we pulled together when I was covering personal finance for The Kansas City Star for two decades. That wasn’t a big deal; I borrowed money from our credit union to buy a car and, when the car was paid off, continued the payroll deduction until we had $10-$15k piled up to cover whatever came up. We’ve also put away some money for a European vacation, which now becomes emergency money until we figure out what’s next. Italy’s wine country was around long before us, and will still be there when we get through this. Our third stash is $10k of inflation adjusted savings bonds I started buying when those were introduced. They just seemed more interesting than other savings available at the time. I hope to get some income going before we tap those or we blow the walk through vineyards in Tuscany. Drop me a line at www.kitchentablenomics.com to let me know how you are doing. Gene
January 12th, 2009 at 11:12 pm
LOL! Then my brain is a very odd place as well. Although maybe our brains are in the same place, if this makes as much sense to you as it does to me: Take the money that you’d like to put toward your debt, but which you feel should be in your emergency fund. Track this amount in some way, either by spreadsheet, keeping it in a separate account or whatever works for you. (I’ve created an ING subaccount.) Watch it grow. When it’s substantial enough to pay off the debt, *then* decide whether it’s in your best interest to pay off the debt or keep it in savings.
Sure, I’m going to end up paying a little more interest on my student loans by holding onto the extra payments. But it’s worth the peace of mind. Right now, my intention is to pay off my loans when there’s enough in that subaccount to do that. But if things change between now and then (and they might), then I can decide at that time that we’d better hold onto the money because we might need it.
The thing about this strategy, though, is that I still feel like I’m doing something extra to pay off my loans, beyond the snowball payment that I automatically make every month. And I still feel like the end of my student loans is in sight, and assuming I make that balloon payment when I have the money, it won’t even take longer than I’d originally planned.
January 13th, 2009 at 2:10 am
Cathy, that’s a great plan! What I’ve found out lately (most probably knew this) is that many times you can use savings accounts to make payments, as long as it’s as an EFT. Thus, not only could you build up the savings for a balloon payment (aka best scenario) you could make minimal monthly payments directly from the same account. Somehow this appeals to my OCD need to categorize and compartmentalize. Money In (maybe direct deposit from paycheck ) minus Money Out (EFT monthly payment) leaving any excess “in” to accumulate. Label the subaccount something clever or perhaps just the name of your debtor, and your brain will be totally convinced!
January 13th, 2009 at 9:42 am
The other great thing to remember is if you decide to save more money for a period of time vs. paying off more debt - should circumstances change, you can always redirect that $$ towards debt.
For instance, I’m due with baby #2 this week, and a few months back, when we realized we had extra $$ in our budget that could go to more aggressively paying off our mortgage, we decided to stockpile that extra cash until the baby was born & then make an additional lump sum payment against the mortgage if everything went well and we had a normal, healthy birth. If for some reason there were a complication needing more $$ (we have individual health coverage and thus no maternity coverage) - we’d still have that cash on hand to help cover it.
That’s the great thing about saving money - as long as you do save it…you can always re-evaluate your decision of where to send it (buy car vs. pay off debt) further in the future when you have even more info about life circumstances!
January 13th, 2009 at 10:14 am
I have run into the problem of having a husband who does not share my priorities, he would rather be saving for the future (house, etc.) and I would rather be paying down my student loan debt. It creates an interesting discussion, thankfully, neither of us is the type to get in a fight about it.
Happy delurking day. Thanks for a great blog.
January 13th, 2009 at 2:00 pm
I love Cathy and Jay’s ideas.
January 13th, 2009 at 4:02 pm
I TOTALLY agree with you! I am TRYING to build up my “emergency fund” but it makes me WAY MORE happy to put that money on a CREDIT CARD BALANCE (and see that lower)!
I am going to try and split that money- 1/2 on the cc - 1/2 goes into my ING Emergency Fund.
February 9th, 2009 at 6:03 pm
I’m of the mindset where if I don’t see what its for, it needs to be spent. ARGH! I’m in the process of retraining my brain, though - starting with my income tax return.
I’m lucky in the aspect that I don’t have much credit card debt, so I’m paying it off in full with my tax return and putting the rest in my ING account. Then I’ll still have my auto loan but I can start throwing money at it once I get a little more saved up. I think a well-rounded $1000 is enough for me as a single living in an apartment with no kids. I had an auto repair in January that was around $600, so I figure $1000 is a nice number for me. Of course, YMMV.
I started using a web app called Just Thrive (at justthrive.com) that allows you to use imaginary earmarks for what your money is for (like rainy day money, retirement, or whatever you want). It runs kind of like Mint and Quicken Online, where it gives you charts info about your money, and kind of gives you an auto-budget. I really like how instead of seeing X amount in my savings account, I see X for emergencies, Y for Christmas presents, Z for a WAY overdue vacation, etc. It makes it easier for me to just have one automatic withdrawl from Checking rather than several - psychologically it feels like less of an impact on my day to day budget.