December 17, 2015
One of the hardest challenges managing your financial life is figuring out how best to juggle multiple goals. And one of the most vexing decisions is what to do if you have credit card debt and you have money sitting in your emergency savings fund.
From a purely financial standpoint, it makes plenty of sense to pay off the credit card debt. The average interest rate these days is around 15%. Meanwhile, money you have in a savings account at a federally insured bank or credit union is likely not earning even 1%. So using the low-earning savings to pay off the high cost credit card debt is a smart financial move.
But you and I both know that money decisions are never purely financial. Emotions play a big role. And I am totally on board that for many of you, knowing you have money set aside in an emergency fund to handle life’s “what ifs” is what helps you sleep at night.
That said, if you have credit card debt, you need to make it your top priority to get it paid off ASAP. Here’s how:
• Look into transferring your credit card balance to a new card that charges no interest for at least a year. Some cards offer a zero rate for 21 months; that gives you a lot of time to pay off the debt while not owing interest. Search online for transfer deals that do not charge a fee on the amount of the transfer (some cards will charge you 3% of the amount you transfer) and that also do not charge an annual fee.
• You are not to charge a penny on this new card that you don’t intend to pay off in full each month. Read the fine print of your new card deal. While the amount you transfer gets the great zero interest rate, that’s not the case with any new charges you don’t pay off each month.
• Use an online credit card payback calculator to figure out how much you need to pay each month on your new card to have the balance paid off before the zero rate expires. That’s your new goal.
• I challenge you to scour your current monthly spending to come up with the money you will need each month to be on schedule to pay off the credit card debt during the zero-rate period. If you are truly serious about getting rid of the credit card debt you will find ways to scale back on your spending. Instead of looking for one big-ticket expense you can drastically cut or eliminate, consider this strategy: Look for at least a dozen monthly expenses that you can cut by at least 10%. Once you add up all those savings you may be very close to what you need to pay each month on the credit card balance.
• If you are still coming up short, I want you to consider dipping into your emergency fund each month to make up the difference. I realize that may make you somewhat uncomfortable, but I am not suggesting you empty out your savings in one big withdrawal. This way you will still have some money in savings, while you are working fast and furious to get rid of the credit card balance while the interest rate is at zero. Once you’ve got that polished off, use the money you were sending in each month to pay off the credit card bill to replenish your emergency savings fund. Trust me, the ultimate sense of security will come when you are free of credit card debt and you have an emergency savings fund.
Answer Yes or No to the follow statements.
I pay all my credit card bills in full each month.
I have an eight-month emergency savings fund separate from my checking or other bank accounts.
The car I am driving was paid for with cash, or a loan that was no more than three years, and I sure didn’t lease!
I am contributing at least 10% of my gross salary to a retirement plan at work, or I am saving at least that much in an IRA and/or regular taxable account.
I have a long-term asset allocation plan for my retirement investments, and once a year I check to see if I need to do any rebalancing to stay on target with my allocation goals.
I have term life insurance to provide protection to those who are dependent on my income.
I have a will, a trust, an advance directive (living will), and have appointed someone to be my health care proxy.
So how did you do?
If you answered yes to every item, congratulations. If you are working on improving on a few items, I say congratulations as well.
As long as you are comitted to truly creating financial security, I applaud you. If that means you are paying down your credit card balances, or are building up your emergency fun with automated payments, that’s more than fine. You are on your way!
But if you found yourself saying No to any of those questions, and you’re not working on moving to Yes, then I want you to stand in your truth. No matter how good you feel, you have some work to do before you can honestly know what you are on solid financial ground.