Emergency Savings vs. Debt Repayment: What Should You Prioritize?

Did you know that 57% of Americans can't cover a $1,000 emergency expense without going into debt? I've seen firsthand how this financial tightrope walk between saving and paying off debt can feel overwhelming.

The good news? You don't have to choose completely between the two.

When I wore the uniform as a junior enlisted member, my wallet was stretched thinner than my patience. Every dollar had a mission as I balanced being the sole provider for my wife and two kids. The math was simple but brutal: just enough to cover the bills, with little room for error.

I became the family's financial gatekeeper—the one whose lips were trained to form the words "no" or "not right now" when hopeful eyes looked my way.

When I said, "I don't have the money," it wasn't an empty excuse. It was the honest truth... for that particular request. Despite the tight budget, strategic planning allowed us to pay off our vehicles ahead of schedule and live comfortably within our means, occasionally treating ourselves when the numbers aligned.

Fast forward to today—the financial vise has loosened its grip, and we breathe easier between paychecks. But even with more cushion in the bank account, I've learned that complacency is a silent adversary that still sneaks up, waiting for a moment of financial inattention to strike.

Let's dive into a practical approach that can help you tackle both emergency savings and debt repayment strategically.

Understanding the Emergency Savings vs. Debt Dilemma

If you lost your job today how long would you be able to get by? Sometimes there's an unexpected interruption in your income flow. It happens in almost everybody's life as some point. An interruption can be a health problem, it can be a problem in your business, a paycheck that was wrong or money taken back, or being displaced from a job.

Operating without a financial safety net can have psychological impacts such as being in a state of anxiety, stress, doubt, or worry.

On the flip side that debt could be dragging down on the dream of a bigger future purchase such as your dream home.

I've known some people who seem to have a perpetual balance on their credit card. It seems that no matter how many times they announced that they've paid it off they always find a way to get back into holding a balance.

Having the proper level of emergency savings can prevent falling into deeper debt and not having to rely on these cards or loans in the first place.

Despite popular belief, credit cards are not a "normal" way of life. The average credit card interest rate is typically between 20-30%. Breaking down the real cost of high-interest debt on your financial future can help to get the fire burning and take action.

Assessing Your Current Financial Situation

There are a number of different ways to assess your current financial situation. Start with learning how to calculate your current debt-to-income ratio.

This is a really important metric because it gives you a 30,000 foot over view of your financial health. That's why lenders such as mortgage brokers use this in their decisions to loan hundreds of thousands of dollars to people.

Calculating this ratio is super simple.

Figure out your total debt payments for the month and divide by your gross income. So if you have $2,000 between a house and car payment and bring in $5,000 then your DTI is 40%. Below are a few general guidelines when it comes to making sense of your DTI.

DTI ratio ranges

35% or less: You're managing your debt well and may have money left over for savings.

36-44%: Generally acceptable for most lenders, but you might want to look for ways to lower your debt.

Above 45%: You might be carrying too much debt for your income

Make a decision to prioritize either high-interest debts vs. lower-balance obligations. Starting from the smallest balance first and working your way up has proven to be successful for many people. For others who are a bit more cost-conscious then tackling the highest interest rate may be the preferred route.

The Case for Building Emergency Savings First

I covered how having cash on hand can actually help from going into more debt. You must understand the role of emergency savings in preventing predatory loans and putting yourself in a position that's going to hurt financially in the long run.

Start by calculating the optimal starter emergency fund amount. You need to be able to cover yourself for somewhere between 3 to 12 months.

Evaluate your monthly cash flow and expenses to see where you can free up some funds. There's always room for improvement and it doesn't always mean you have to live off of ramen and rice and beans. Start with the main living expenses.

1. Rent or mortage
2. Food
3. Gas, electric, water, phone
4. Transportation
5. Insurance payments

Determine your personal emergency fund needs based on lifestyle factors. Really take a look on what the average costs to run your household are each month.

Here's a quick example on how to do it based on the expense categories:

1. Rent $1,290
2. Food $850
3. Utilies/bills $289
4. Transportation $729
5. Insurance $300
   Total $3,458

A good range for this example would be anywhere between $10,000 to $20,000 to have saved up to cover 3 to 6 months of expenses.

For most people, 3 months is too short a timeframe while 12 months may seem like a lot. Start by putting aside a few month's of overhead and gradually building towards 6 to 12 months.

Wouldn't it be great to know that if something happened you had a year to be able to get yourself back on track? You'd still have a roof overhead, food in the fridge, and the bill would get paid.

Most importantly, you'd have peace of mind.

Really this is the most basic and foundational layer that your future financial success is built upon so keep it simple and start small. Even if it's just getting $1,000 - $2,000 when you've never had that before is a huge win.

You just need enough at first to prevent any of life's setbacks from causing you to take a step back in your progress.

Once you can keep a small stable account balance then focus on quickly building up the emergency fund as soon as possible so you can prioritize either debt repayment and eventually investing.

The best way is to simply automate savings while managing existing debt. Setup a direct deposit from your paycheck or a recurring transfer each pay period directly from your main bank account to your savings account.

Trust me you're not even going to notice the difference after a while and you will simply adjust to living off of what's available in the account.

When to Prioritize Debt Repayment

Sometimes you'll be in scenarios where aggressive debt repayment makes more sense. If the risk is simply too high then it makes sense to make debt repayment the highest priority. Sometimes it might simply be a matter of preference.

I'll give you an example of my current lifestyle. For the last year and a half I've been focused on paying my house off in full. Initially I was torn between saving for future investment properties or paying off the house and being debt free.

It was a tough decision because I felt like the opportunity cost of not investing was too great. In the end it gives me peace of mind knowing that I took a small detour to become financially secure and then go full throttle on investing aggressively.

On the flip side, at another point in life it was quite the opposite. I know what it's like to be a junior enlisted military and barely scraping by with a low income and a family depending on me. That still didn't stop me from paying vehicles and personal loans off well ahead of schedule.

Limited goals create limited lives. External circumstances can not dictate our success.

High-interest debt is a massive drag on long-term wealth building. It's like sprinting with one of those parachutes strapped to your back. Those minimum payments are designed to keep you in the hole for a very long time.

Explore different debt repayment methods such as the debt avalanche or debt snowball methods

If the offer is right then consider leveraging balance transfers and debt consolidation to get better interest rates and reduce your monthly payment.

Creating a Hybrid Approach

Develop a percentage-based plan for both goals. This works especially well whether you have a steady paycheck or you're in sales with an income that varies month to month.

Before you get your paycheck there are invisible hands out waiting to collect their share. The money has already been spoken for because the bills need to be paid and the tax man had his hand in your pocket before the money even touched your account.

This is why you must master the "save and pay" monthly budget allocation. Before you give any of that money out put a little in your savings account. That's the vault that no one can touch. This includes you when it comes to tempting options to spend on.

Learn to adjust your strategy during different life stages. You might be in a phase where you're just starting out. The income might be low and the expenses high due perhaps due to student loans, mortgages, and vehicles. Over time that balance shifts a bit and you can alter your approach.

Do what you can with what you've got. It's all relative and you want put yourself in a position that doesn't create more risk when all you're doing is trying to reduce it.

Now don't think that it has to be an all or nothing approach. Implement micro-saving techniques while tackling debt so that way your bank account is increasing even if it's a little bit at a time.

The psychological effect of progress should always be respected. Remember, you make the rules to how you play the money game. If paying off debt is the highest priority then dig deep and throw every resource at it.

Remember, financial security isn't about choosing between emergency savings and debt repayment – it's about finding the right balance for your situation.

There's no one size fits all approach. Find the closest fit for you and adjust to your preferences.

By implementing the strategies we've discussed, you can build financial resilience while steadily reducing your debt burden. Start with small steps today, and you'll be amazed at how quickly you can make progress on both fronts!