Earlier today I was thinking about a post idea for this blog. It was going to be about the steps you should take to get out of debt. At first, I was thinking that you should establish an Emergency Fund then start paying off your credit cards. I feel like I have read this over and over so I figured that was probably right. Then I thought about it a little more and it didn’t make sense to me why you shouldn’t pay off the credit cards first and then establish the emergency fund.
Reasons for Paying off Cards first:
1) Why not? I guess that is not much of a reason but, really I don’t see much of a difference in putting your extra money in the bank or using it to pay down your credit cards first. Nowadays you can use your credit card to pay for just about anything so as long as you have the extra balance on your credit card to spend, it should be able to be used like money in the bank.
2) You get a much better return on your money. Once you have paid off part of your debt, you are essentially getting the APR you were paying on the credit card as your return. Often times that is upwards of 15-30% depending how bad your credit score is. That is much better than the 3% you would get if you put it in the bank. Actually, it is better than most people do in the stock market.
How it Could Backfire:
1) In a real, serious emergency credit might not be good enough. Sometimes cash is better. But the kind of emergencies I am thinking of probably would make money in the bank worthless too. If it were some sort of extreme disaster cash on hand might be the only thing you could use and maybe not even that. Those are pretty unlikely so we will just keep moving.
2) Some people don’t pay attention to how much they put on their cards. If you just keep on spending until they tell you your credit limit is up this strategy may not work. You would probably just spend any extra money you put to pay down the card. Maybe having this extra money in a bank account would help because it wouldn’t be as easy to spend as a credit card (assuming its not in a checking account).
Well, tell me what you think. Is it ok to pay off your credit cards before starting an emergency fund? Does it not really matter?