Paying Off Debt versus Emergency Fund (3 to 6 Months)

Hi,

I've been reading a lot on the YNAB method (I'm fairly new to the method and the software) and have also become familiar with Dave Ramsey's baby steps.

 

I currently have an Emergency Fund of almost 500 dollars. According to Dave Ramsey, you need to squirrel away 1000 in the Emergency Fund and THEN start paying off debt using the snowball method, but I know other people recommend that the Emergency Fund is high enough to cover all expenses from 3 to 6 months (considerably more than 1000) and then work on debt.

 

I just signed with a new job that will give me a small sign-in bonus. Would you recommend that I put all of the sign-in bonus into the Emergency Fund? Or just enough to get the Emergency Fund to 1K and then use the remainder to attack my debt?

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  • It depends on the debt you are paying off and what would happen in case of emergency. If the debt is a mid-to-low interest loan, then once you make the payment, you can't get the money back in case of emergency. But if it's a high interest credit card, in the worst case emergency, you have to use the credit card again, but you saved money on a lot of  interest in the meantime.

    Reply Like 6
    • QC
    • HaplessFinanceProfessional
    • Queenofcoin
    • 6 mths ago
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    Think of your first Emergency Fund as a small pool of money that will help you avoid using your credit cards (and building more debt).  

    Having 3-6 months of income tucked away is more of an Income Replacement fund in case of illness or employment loss. 

    It can take a long time to build your Income Replacement fund and ideally is something you want to do after you’ve eliminated all debt (except for the mortgage perhaps). 

    Ultimately there is no One Size Fits All and it comes down to your priorities and how you plan to meet them. 

    Reply Like 4
  • Got kids? Or are you single?  Stable income? Or seasonal/commission income?  Did you cut up your credit cards? Or do you still have them? 

    Different circumstances will be key in what kind of fund is right for your circumstance and for your own peace of mind.

    When I was getting started on the debt-elimination phase of this journey (more than 12 years ago), I do recall that $1,000 didn't feel like enough because I didn't have credit at the time.  I had eliminated all sources of credit, so I made my e-fund half a month of my then income.

    Reply Like 1
      • Sara Ivette
      • Dreamer
      • saraivette
      • 6 mths ago
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      Thanks for all the great replies!

       HappyDance . I got no kids, but I do have pets, one of them quite elderly so I have a fund for his special needs. But no tuition/daycare to worry about.  I have a domestic partner, but she hasn't found a job in the new city yet (understandably, since I only accepted the offer last Friday).  I've already made a preliminary budget and confirmed that my salary alone could cover all of our expenses while she's looking for a job. I will have stable bimonthly income, and I do have all my credit cards, because I always paid them in full at the end of the month until last year, where I found myself unemployed and with a mortgage for 6 months. I got 7500 dollars in debt on an AMEX from expenses incurred during the unemployment period (after the savings ran out), but I have 0 percent interest for the next 12 months on that card, so I'm paying 7500 % 12 as the minimum payment. I want to pay off a personal loan (6K at 4%) first (target date May), and use that $305 payment to pay off the credit card (even if its just 0%, I just want that minimum payment freed), and then use the almost $800 to pay off the car (4.9%) quicker. I'm also on the process of getting rid of my mortgage, since it is for an apartment in my homeland in Puerto Rico and returning there is not on the pipeline for the next two decades.

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  • Personally I'd go with Dave Ramsey's method.  Get your emergency fund up to $1000, pay off all your debt except your house then add to your emergency fund to get the 3-6 months of expenses.

    Reply Like 3
  • Hi Sara Ivette !

    Here's how to think about that: you want to have enough in savings that, should something happen, you don't have to go back into debt to deal with it. 

    Some people can get into trouble with dealing with their debt too quickly. The debt is gone, but so is all your cash. Set aside a little emergency fund, fill up your True Expenses (sounds like you might already be there!), then make a debt plan. And keep an eye on your Age of Money - grow that number and you know you're more secure. :)

    Reply Like 1
      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 6 mths ago
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      Still looking for ways to try to make AoM relevent, huh?

      Reply Like 2
    • nolesrule It is one of the Four Rules now and a good reference point when getting started. :)

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      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 6 mths ago
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      Faness But it's not really a rule. It's a naturally occurring side effect of following the first 3 rules that has some major volatility due to Rule 2.

      Reply Like 1
    • nolesrule You're absolutely correct that it'll occur naturally if the first three rules are followed. Rule 4 gives a quantitative way to track that progress when getting started. We suggest an Age of Money of 30 days because that's essentially living on last month's income. We know the figure can fluctuate and we don't mean to paint it as the end-all metric (which we go over in How Old Is Your Money?), but it helps to be able to track how far you've come when tackling a budget.

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      • Agent99
      • Working to Get Smart at budgeting, finances and life
      • Agent99.1
      • 6 mths ago
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      nolesrule  You're a real trooper!  You know that YNAB now demands we make the meaningless AoM something relevant and important.  Pooh, that concept of "Live on Last Month's Income, " it was just too concrete and scary!

      Reply Like 3
      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 6 mths ago
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      Agent99 😎

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      • Patzer
      • Retired at age 60. Thank you, YNAB!
      • Patzer
      • 6 mths ago
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      Agent99 I was rather surprised that Faness was allowed to link to a video that refers to Income Available Next Month as the normal way to record things.  We all know that INM isn't coming back, and is  in conflict with the current Official YNAB Way, even though it works really well for people who move beyond living paycheck to paycheck.

      And AoM isn't totally meaningless; it's just meaningless for people whose finances are such that they aren't in danger of creating overdrafts.

      Reply Like 2
  • Patzer said:
    And AoM isn't totally meaningless; it's just meaningless for people whose finances are such that they aren't in danger of creating overdrafts.

     No. It's universally meaningless. Primarily because it tells you something about the last 10 transactions you made, and nothing about the next one you are going to make.

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      • Patzer
      • Retired at age 60. Thank you, YNAB!
      • Patzer
      • 6 mths ago
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      nolesrule I would be the last person to argue that AoM is massively useful, or useful at all in a forward looking sense.  But it's not quite universally meaningless.  At the very low end of financial sophistication, AoM in the single digits is a look backwards at how you've done.  As WordTenor has noted, at that level it correlates well with getting from desperately living paycheck to paycheck, to having some breathing room.

      Once there is breathing room, you have a pretty good point about it being totally useless.  And it certainly doesn't act like a Rule upon which a budget is built, even in narrow range where it has some minor utility.  That minor utility is offset by the distraction AoM creates when not living paycheck to paycheck; chasing a higher number can take attention that would be better spent on other aspects of the budget.

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      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 6 mths ago
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      Patzer What it correlates to is following the first 3 rules, but it overinflates due to Rule 2. Rule 2 is about keeping even (accounting for those irregular expenses by budgeting for them regularly), and when those come due, your AOM drops again. The inflation and drops are entirely dependent on the size and frequency of the Rule 2 spending, and at the beginning of using YNAB, how close you are to the next large Rule 2 spending event. There's just too much volatility from Rule 2 for it to be useful.

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      • Patzer
      • Retired at age 60. Thank you, YNAB!
      • Patzer
      • 6 mths ago
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      nolesrule I concede accuracy of your points, and totally agree with you about AoM being useless in general.  I simply maintain there is a small, specialized case where it is useful.  I concede that anyone who uses YNAB successfully will not remain in that small specialized case very long, and AoM is totally trash as far as being considered a rule.  It's not, it's a measurement of extremely limited (but not quite zero) utility, useful only in situations where there are no Rule 2 funds built up and less than a 30 day buffer.

      In addition, it's totally worthless for someone who uses credit cards and also uses the stock nYNAB credit card handling.  But that's almost a footnote, compared to the bugs and dubious programming choices of the stock nYNAB credit card handling.

      If I assume that the target market of YNAB is people who will continue to live paycheck to paycheck forever in spite of using YNAB, AoM makes a certain amount of sense. 

      Reply Like
      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 6 mths ago
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      Patzer If you're not building your Rule 2 funds, then you're screwed, regardless of what the AOM number is.

      Reply Like 3
      • HappyDance
      • YNABing consistently since 2014
      • HappyDance
      • 6 mths ago
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      nolesrule said:
      if you're not building your Rule 2 funds, then you're screwed, regardless of what the AOM number is.

       This ^, a thousand times ^ this, is the precise reason YNAB was such a powerful budgeting process for me and many others, to be sure. The emphasis it placed on budgeting monthly for known and anticipated expenses really made the difference.  No matter how disciplined, no matter how committed, a budget that doesn't include a process for identifying and setting aside monies for known (or reasonably anticipated) upcoming expenses is eventually derailed by those irregular events such as annual car insurance renewal, Christmas, brake job, back to school expenses, etc.

       Those of us committed to using YNAB know that AoM really isn't a rule. As  Patzer says, it really is a measurement  -- thanks for the better description --  a measurement of, presumably, how well you are following the actual YNAB rules (or philosophy).  The AoM will naturally increase over time and have big dips downward when irregular expenses hit the budget.  At first blush, these dips feel like a negative event, but it's just a measurement, not a score.  Because I'm paid once a month (mostly), my AoM drops dramatically quite frequently, almost every month, and literally every time I exhaust one pay deposit and move on to the next which is 30 days younger.  Mine will drop 30 days at the entry of an insignificant pack of chewing gum, and that could be so very deflating and discouraging if I was new or if I placed a lot of value on the AoM.  YNAB corporate keeps saying that it's a rule, but that gives this passive measurement far too much importance considering it's natural volatility in anybody's budget. That is why I tell everyone to consider it an entertaining distraction.

      Reply Like 3
    •  I'm not on the forums much, so I'm not sure if I'm opening a can of worms here.

      Why is it not possible for AoM and the "Income for [Next Month]" feature from YNAB 4 to coexist? Is it a function of how the tool has been developed? It seems to me that one feature is a simple calculation of what has been spent. The other feature just directs your money to be budgeted at a future month. One has to do with the past; one with the future.

      "To be budgeted" just throws everything into one large bucket. Does it fundamentally break the source code to have a "To be budgeted this month (and beyond)" bucket and a "To be budgeted next month (and beyond)" bucket?

      Reply Like 1
      • nolesrule
      • YNAB4 Evangelist
      • nolesrule
      • 6 mths ago
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      Coral Wizard I think we'd all like to know the answer to that. I just think they've decided Income for next Month has no place in the current incarnation, and I think it is a huge mistake.

      Reply Like 3
      • Patzer
      • Retired at age 60. Thank you, YNAB!
      • Patzer
      • 6 mths ago
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      Coral Wizard It would absolutely be possible for AoM and Income for Next Month to coexist.  YNAB chose to eliminate INM, create AoM, and call the fuzzy "Age Your Money" a rule, for reasons that seem dubious to long term users of YNAB.  But it is what it is.  I have my workaround for INM, and AoM moves up and down depending on how the pattern of my current spending compares to the pattern of my income 9 to 10 months ago.  At that level AoM is totally meaningless.  I rather suspect AoM loses most of its meaning when it gets above the number of days between paychecks.  Which, as nolesrule notes, will happen easily when the budgeter builds his/her Rule 2 funds. 

      As far as INM breaking the code . . . I'm not a code monkey.  But it doesn't matter.  The YNAB organization does not want to add INM back into the system, so it won't happen.  I will need my workarounds until such time as the YNAB corporate vision changes.

      And we're likely to have more of these irrelevant digressions whenever Support tries to insist that AoM is vitally important.  It isn't, and it's a tough uphill battle to prove that it has any utility at all.  Certainly it doesn't deserve to be considered a key metric of a successful budget, let alone a foundational rule of the budget system.

      Reply Like 3
    • Patzer and this is why open source software is so much better than proprietary stuff like ynab the flexibility to change it yourself and for those who don't know how top code sharing those changes with them,  it's called forking and atm ynab could use to be forked but that's not possible with proprietary cloud source software like ynab.

      Reply Like
  • Sara,

    The great thing about personal finance is that it's personal.

    If you follow the reasoning, Baby Step 1 is designed for minor emergencies, such as a minor hospital visit or a small car repair. Your full emergency fund at Baby Step 3 covers a major emergency or loss, such as a long-term loss of income.

    Of course, Baby Step 2 (debt payoff) sits right in the middle of these. I think that you should just ask yourself: How much "risk" do you want to take on? Is your job in turmoil? Is your car on its last leg? Rather than $1000 at Baby Step 1, maybe you consider getting 1 month worth of expenses saved up. Or maybe, since personal finance is personal, you bump up your Baby Step 1 emergency fund because it lets you sleep better at night.

    Or maybe you do something like this:

    1. Save 1/2 month of expenses for emergency.

    2. Pay off debt #1.

    3. Save 1 month of expenses.

    4. Pay off debt #2.

    5. Save 1 1/2 month of expenses.

    6. Pay off debt #3.

    7. Save 2 month of expenses.

    ... and so on.

    For me, the biggest things are acknowledging that you want to pay off the debt and build up an emergency fund. How and in which order is up to you.

    And just for reference, I followed Dave Ramsey's Baby Steps to a T.

    Reply Like 5
      • HappyDance
      • YNABing consistently since 2014
      • HappyDance
      • 6 mths ago
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      Coral Wizard 

      Very pertinent post.  Nicely said.

      The winningest strategy, in my opinion, is to design a plan that is the most direct for your individual circumstances, one that makes sense to you,  and then follow through.  It's the follow through part that is critical.  When the going gets tough or boring, and it will get both tough and boring at times, don't switch up the plan midway and start  going in different directions.

      Reply Like 3
      • Sara Ivette
      • Dreamer
      • saraivette
      • 6 mths ago
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      Coral Wizard Wow! That's a wonderful idea! Thank you so much! I think I'm going to go with these, as it has the best balance between clearing debt and personal peace of mind. 

       

      Thanks again!

      Reply Like 2
      • Six Hats
      • monkeychicken
      • 6 mths ago
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      Sara Ivette Have you considered growing your Emergency Fund at the same time as paying down your debt?

      Reply Like 1
      • Sara Ivette
      • Dreamer
      • saraivette
      • 6 mths ago
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      Six Hats Until my partner finds a job in Richmond, I will only have like a 100 bucks for non-essentials a month, so I think it's only enough funds to do one or the other.

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      • Six Hats
      • monkeychicken
      • 6 mths ago
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      Sara Ivette Personally, I would put £50 in the Emergency Fund and £50 towards the debt. But that's just how my mind works.

      Reply Like
      • HappyDance
      • YNABing consistently since 2014
      • HappyDance
      • 6 mths ago
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      Sara Ivette 

      Sara Ivette said:
      Until my partner finds a job in Richmond, I will only have like a 100 bucks for non-essentials a month, so I think it's only enough funds to do one or the other.

       Good thinking.  There's nothing wrong with circling and waiting for the perfect wind. You got this.

      I've watched geese and cranes preparing to fly south for the winter.  Geese seem to be on a communal telepathic timer. They will all simultaneously lift off and just go, picking up more and more birds along the way and stopping at the same locales every year for successive legs of their journey.  But a flock of cranes will wait until they have the right conditions.  The cranes will lift off early in the day and begin circling over one spot a few thousand feet up. Circling. Circling. Circling, slowly over a field in some aerial version of treading water for, literally, hours.

      I said to my brother one day, "what on earth are they doing?" and he said, "they're waiting for that perfect wind, one blowing in just the right direction and at just the right speed to give them both lift and speed. That kind of wind can take them the thousand miles they need to go without stopping, and they instinctively know that is the most efficient and least  physically draining migration for them.  If they don't get the right wind today, they'll land, rest for the night, and start circling again tomorrow."

      In your situation, I'd keep paying my minimums and on time, make a frugal meal plan, and attempt to hold the leftover money in reserve.  With $100/month leftover, you don't have much margin to make a dent in debt, and those extra few dollars could be very handy for whatever pops up.  And when your partner lands a job, you'll be ready to implement the crane plan, stop flying in circles, and head out for your goal with that perfect wind adding to your lift and speed.

      Reply Like 5
      • Sara Ivette
      • Dreamer
      • saraivette
      • 6 mths ago
      • Reported - view

      HappyDance That's also a great idea. Those 100 won't help much with saving interest, but they will help with peace of mind while she lands a job. Very wise!

      Reply Like
  • Stick to Ramseys rules. They work.

    Build up your $1000.

    3-6 Months of expenses is Baby Step 3. Dont skip ahead.

    Remember: $1000 is just the starter Emergency fund and meant to get you motivated. PLUS what you can do is when you have $1000 is maybe raise your car or house insurance excesses/gap because now you have $1000 for such things. That will then lower your monthly insurance payment (if monthy paid) and give you more money to throw at the debts.

    THEN you hit Baby Step 2 for the debt snowball.

    One thing people possibly forget or dont talk about is the pain and discipline you learn and go through in the debt snowball puts you in a fantastic position to apply that to all the good stuff you'll do with your money moving forward i.e. saving up 3 -6 Months of expenses. 
    It should happen pretty fast once you get there.

    I'd put your bonus on the emergency fund to make up the $1000 and anything left straight onto your smallest debt.


    Good luck.

    Reply Like 2
    • DnA
    • IT manager, husband, YNAB podcast listener
    • Navy_Blue_Cup.2
    • 5 mths ago
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    I can appreciate the spirited debate around certain methodologies on this thread. And while I'm not a moderator, I do want to gently encourage/remind folks that responses should be an attempt to be helpful to the person looking for assistance :-) I'm not throwing shade.  I promise!  

    As for the initial question posted by Sara Ivette , here's a thought:  One reason why an emergency fund can fail is if you don't plan for the expenses that only come up on occasion.  In my budget,  I am building a car repair fund, a home repair fund, etc.  So, if something happens in those areas, I don't have to touch my emergency fund.  That's different than saving up for 3 - 6 months of expenses and is a little more attainable. And if I'm repeating any advice that's already been given; sorry.  There are a ton of posts here :-) 

    Reply Like 1
    • DnA
    • IT manager, husband, YNAB podcast listener
    • Navy_Blue_Cup.2
    • 5 mths ago
    • 1
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    Also - it looks like I more or less just re-stated rule 2.  Heh - I can be a little clueless, folks.  Bear with me :-) 

    Reply Like 1
  • I would politely ignore Dave & go with this method. Aging your money is basically your 1-6 Er  plus your saving for small stuff is your debt prevention method.

    So you are more insured to stay out of debt while getting out. Unlike Dave’s method the $1000 was never enough to survive & we spent YEARS paying debt & replenishing the $1000 Er. No vacations or living, just felt like crap every day. 

    We are new to YNAB, but I aged a month ahead, add to our savings funds monthly (debt prevention fund) & throw the rest at debt.  Good luck!

    Reply Like 1
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