Sunday, July 20, 2008

Rethinking the Debt Savings Account

I hate to say I am wrong about things. But, I think I was wrong. Hmm, that wasn’t too painful.

I think the reason finances are so HARD to deal with is that there is no right answer for every situation. I think it is a great idea for everyone to begin with a $1000 emergency fund, but even Dave Ramsey says some folks only need $500 and others need even more.

A week or so ago, Trent at The Simple Dollar talked about a Debt Savings Account. Basically instead of snowballing your debt to the creditors you roll all the money into a savings account. Once you have a certain amount of money (depends on what you are doing) you take the money out and pay off some debt.

I have done this before. In fact, I just did it last week. We were not certain how much money I would need to a) cover my salary while on maternity leave, and b) cover our medical bills without going into more debt. So, what we did was to save and save and save, and wait and wait and wait. When I got the final bills from everyone, I paid them off and put the rest toward other debt we had outstanding. It worked great. We were safe because we had the money so that if the hospital had charged a couple thousand more than we anticipated we could have still paid them off. Yet, once we got the true amount we had the extra money to pay off some debt. So, we got both of the things we wanted… no new debt and some old debt paid off.

Now, my original plan once we finished up with the hospital was to start a debt snowball with our other outstanding debts. But, as they say, life happens.

We are now expecting two more bills that won’t be outrageous but will be in the hundreds of dollars category. There is also a little situation that may be coming up soon which would cost us a minimum of $1500. Now, we have our emergency fund, but since we KNOW these expenses may be coming up soon we should do the smart thing and start saving for them instead of paying off debt right now.

So, here is what I plan to do. There is one more card that I plan to pay off. It is a small balance and it will add $50 a month back to our income. After that I will pay one of the small bills that we are anticipating. This will take us down to almost $0 in savings EXCEPT for our emergency fund which we don’t plan to touch. Then instead of beginning to pay down our debt at snowball speed, I will put money into savings until we reach probably the $2000 just to give us some room. After this we will begin our snowball. We should know what is going on with that possible other expense by Christmas. If we have not used the money by then, I plan to put that toward our debt as well.

So, I guess I will be using a Debt Savings Account after all, even though I said I wouldn’t. There really are some cases where it is necessary to use this method. For some reason we just keep running into them. I still don’t agree with the notion of saving 3 to 6 months salary first because for us that would take a really long time and we would be paying interest on all the debt. But, I do believe if you know an expense is coming up you should stop debt payments (except min. of course) and save so that you don’t have to dip into the emergency fund for these “unexpected, expected” expenses.

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