How to Rebuild an Emergency Fund While Paying Off Debt?

The cost of living has risen sharply in recent years, making it tough going for many New Zealand households.

If you’re facing higher bills and paying off debt, you might feel like there’s not a lot left for anything else.

But it’s always crucial to have one eye on your financial safety, including having an emergency fund.

What’s an emergency fund anyway?

An emergency fund is an amount of money that you have set aside to cover unexpected expenses.

Advice varies, but financial commentators often say it’s a good idea to have saved at least about three months’ worth of your income.

This means that if you are hit with a surprise car bill, for example, or you have a period of time where you’re out of work, you can get by without having to rely on debt.

But if you’re paying off debt, it can be a challenge to build – or rebuild – this fund.

Here are a few things to think about.

Why rebuilding an emergency fund matters?

While repaying debt is often the focus for households that are servicing loans, it’s also important to keep saving money.

Rebuilding your emergency savings means you don’t have to rely on high-interest debt if you need money in a hurry, and it can help create invaluable peace of mind and financial security.

It can also mean you avoid getting into a debt cycle that you’re not comfortable with.

How to build an emergency fund?

If you know you need to build (or rebuild) your fund, there are a few ways to start.

Look at your current financial position.

Do a deep dive into your situation. What debts do you owe, and to whom? What interest rates are you paying, and what terms are they over? What does your spending look like – what proportion goes on essential items and what is on non-essentials? Understanding where your money is going each month will help you to set realistic savings targets without missing debt payments.

Build a dual-goal budget. 

When it comes to paying off debt while saving, neither goal should take priority. When working out your budget, consider how it could accommodate both. You could allocate a fixed percentage to debt repayments, such as 40 per cent of your income, and set aside another amount (that is manageable within your budget) to go to savings. You can adjust the proportions as your income or expenses shift, and to ensure it suits your family situation and circumstances.

Choose your debt repayment method.

You might hear people talk about “avalanche” or “snowball” debt repayment strategies. When you use the avalanche method, you focus your efforts on paying off the highest-interest debt first, then move to lower-interest debts until you have cleared what you owe. With the snowball method, you focus on the smallest debts first and then work your way up. You can use whatever method you find most motivating and practical – the most important thing is to see what works for you. You may also need to check what fees are associated with making extra repayments on your debts.

Set the right emergency fund target

It’s also helpful to have a clear idea of how much you’re aiming to save.

This will depend a lot on your personal circumstances, but there are some things to keep in mind.

Start small

Trying to save an amount that’s equal to many months’ worth of salary might seem daunting. Just start where you can. Even having $500 to $1,000 put aside to help with a short-term emergency can be a big help.

Grow gradually

From there, you can build your fund over time to get to a bigger goal. The important thing is to keep making progress. Consistently saving small amounts is likely to give you a better overall outcome than trying to set aside large lump sums.

Practical ways to rebuild savings without slowing debt repayment

Here are some ways you might be able to make sure you stay on track with your savings goals, even while you’re making your debt repayments.

Automate your savings

The less you have to think about it, the better. If you can, set up automatic payments to your savings account on the day you’re paid. Paying yourself first can be really powerful.

Make use of windfalls

If you get any unexpected income – maybe you sell something you no longer need, or you do a bit of work on the side – put it into savings.

Cut back on luxuries

If you can trim your spending while you save your emergency fund, you might be able to free up more money to put into it.

Protect your emergency fund from being drained too soon

Once your fund has built up, you’ll probably want to make sure it doesn’t run out again.

Consider where you keep your money: You could look at the options for your fund, such as a high-interest bank account or a term deposit. (Note that if you opt for a term deposit, you need to understand what will happen if you break that term.)

Only use it for emergencies: Resist the urge to tap into your fund for everyday expenses. It should be used for genuine financial emergencies. If you can make it a little harder to access, this might help.

Replenish it after you use it: As soon as you take money out, focus on rebuilding the balance.

Keep it separate: It will probably help to have it in a separate place from your other finances. This helps to keep it a little out of sight, which might reduce the temptation to use it, and also clearly delineates it so you can monitor your progress.

Debt or savings?

If you’re struggling to work out whether debt or savings should get most of your attention, there are some points you could ponder.

Is it stressing you out? If your debt is high-interest or overwhelming, it may make sense to give it the bulk of your attention before you increase savings. You can adjust your saving proportion as you feel more in control.

Split focus: Aim to try to keep progressing towards both of your goals each month – paying your bills and saving money.

How safe are you? If you don’t have any other safety net or you have unstable income, it might make sense to focus on saving before you think about tackling your debt beyond minimum payments.

Stay motivated

These are likely goals that you’ll work towards over a long period of time, so you’ll need to do what you can to stay motivated.

Set milestones and celebrate your wins to see that you’re making progress.

Use apps and digital tools whenever possible. There are many free and paid options available to help you get to grips with your goals.

Get accountable. Share your goals with a partner, friend or even a financial mentor, to help you stay on track.

Building resilience for a better financial future

It’s possible to pay off debt and rebuild your emergency fund at the same time. You don’t have to choose one or the other.

When it comes to this kind of financial progress, small, consistent habits make the most significant difference over the long term.

If you want to talk about your personal loans or have any questions about debt consolidation or other borrowing, get in touch with the team at better finance™.

We’re personal loan experts who can help you with any questions you might have.