Jean Chatzky
Do one thing: If you don’t have an emergency fund, it’s time to open a separate high-yield savings or money market account to start building one.
Saving for Emergencies is Key
On the road to a more sound financial future, deciding whether to pay off debt or save for emergencies first can be difficult. The reason it’s so tough is that you want to be able to do both – pay down debt while still saving for emergencies (and retirement). That’s why you need to approach the problem strategically.
Start Now
First, if you have no emergency fund, it’s vital to begin placing money in a separate account every month to build up a cash cushion in case you lose your job or are unable to work because of illness or injury. Once you have six weeks to two months’ worth of basic living expenses saved up, you can place more focus on paying down high-interest debt and saving for future goals, including retirement.
Emergency Funds Can Prevent Credit Card Debt
Adam Van Wie, CFP, a partner with Strivus Wealth in Jacksonville Beach, Florida, says many of his clients who have debt and no savings tend to want to pay off debt first: “What they don’t realize is that savings is what could have prevented them from going into debt in the first place.”
Prepare for the Unexpected
Those same clients often say their credit card debt accumulated because of unexpected expenses. “If you have no savings and you need new tires, that $1,000 is likely going to go on a credit card,” Van Wie explains. “If you have an emergency fund of $5,000, you can pay for the tires, and then pay yourself back without any interest to rebuild the emergency fund.”
In many cases, Van Wie says he initially places more emphasis on having clients build some savings while also managing their debt to get their interest rates as low as possible.
What does that look like? “Sometimes this means using a secured loan versus an unsecured loan, consolidating credit cards to a promotional 0% offer, or some other strategy that can minimize the amount of every payment that goes toward interest,” he says. “Once you have savings built up, then let’s tackle the debt.”
Key Steps for Building an Emergency Fund
- Automatic Transfers. Move a certain amount from checking to savings every time you get paid through an automatic transfer. It’s important to get the money out of your regular account so you won’t be tempted to spend it. Automating this process will make it easy for you to make sure it happens without having to rely on yourself to remember to do it every time a direct deposit lands.
- Up Your Income. If you aren’t making enough to set aside money for savings, you may need to take on some extra work for at least a while to bring in more income. Nearly 40 of Americans now have a side hustle or extra job to supplement their regular earnings.
- Allocate Lump Sums. If you are expecting a tax refund, use that money to start or supplement your emergency fund.
Now That You Have Emergency Savings. Do This.
When considering where to put your money once you have some savings in place, ask yourself which action gives you the greatest return. That’s because when you pay off a debt, the return on your money is equal to the interest rate minus any sort of tax advantage.
Next Best Steps
Here’s my hierarchy for how to use your money:
- Maximize Matching. Grab any matching dollars in a 401(k) or any incentive dollars in a Health Savings Account (HSA). That’s likely to be the best return you are ever going to get on your money. For example, if your company matches up to 5% of your income in a 401(k), you should make sure you are moving that 5% into the company 401(k) every single month so you can get all of the additional money from your employer. Otherwise, you are leaving money on the table.
- Cut Debt. Next, pay off any high-interest rate debt, such as what you owe on credit cards. In 2025, credit card rates continue to be sky-high, and Americans are carrying a historic amount of personal debt. Tackle this type of debt while still making regular monthly payments on other types of loans at lower interest rates.
- Maximize Tax Advantages. Look at other tax-advantaged savings, especially retirement accounts. Once you have paid off the high-interest debt, for example, you can start placing more money in your 401(k). You can also put money in independent retirement accounts (IRAs) such as a Roth and even in a traditional IRA. One tip: To make the most of compound interest, make sure the money you put into the IRAs and 401(k) is being invested, not just sitting in the account.
- Prioritize Other Debts. If you have other lower interest rate debts you are carrying – and you still have some additional money to spend each month – you could look at whether you want to prepay some of those debts. That could mean prepaying your mortgage or getting ahead on a home equity loan.
With reporting by Casandra Andrews
Chris O'Shea
