Should You Pay Off Debt or Build an Emergency Fund First?

If you have multiple financial goals you’re trying to achieve, it can be hard to know how to juggle them simultaneously — especially if those goals are key to building your financial foundation. So it’s not surprising that one of the most common questions people ask is: Should I prioritize building my emergency fund or paying down my debt?

How you choose to prioritize those goals depends on your personal situation, but there are some important basic factors to keep in mind. Here’s what to consider.

What is an emergency fund?

An emergency fund is money that you’ve set aside to pay for unexpected expenses, like a surprise car repair, medical or dental bill, trip to the vet, period of unemployment, etc.

It’s generally a good idea to save your emergency fund in an account that is separate from both your checking account and any money that you’re saving for other goals. This way, you’ll be less tempted to dip into it for non-emergencies.

Emergency fund vs. paying off debt: Which should you prioritize?

To help determine whether to start with paying off debt or building your emergency fund, answer the questions below.

1. How much do you have set aside for emergencies?

If you need to build your emergency fund from scratch, then your first goal should be to save one months’ worth of living expenses, says Jennifer Raess, CFP®, Advice Integration Lead at Northwestern Mutual. That amount should give you some breathing room and allow you to cover a minor emergency. While you’re building to one month, you should continue paying the minimum amounts on your debt.

“Imagine if you begin aggressively paying down your debt, but you have nothing set aside for emergencies,” Raess says. “If an emergency does strike, how will you pay for it? The last thing you want is to have an emergency add to your debt load and sap your motivation while you’re trying to pay it off.”

2. How large should your emergency fund be?

Generally speaking, most people should aim to have about six months’ worth of expenses set aside in their emergency fund. This should be enough money to cover common or major emergencies as well as a prolonged period of unemployment, Raess says.

But she notes that every situation is different. “Three months may be OK for a household with an alternate financial safety net, multiple sources of income that reduce risk of total loss of income, or other unique circumstances,” Raess says. “If you have a stable career with a stable employer in a stable industry, then six months’ worth of expenses set aside would be appropriate. But if your career is volatile or you’re self-employed with irregular cash flow, you might want to aim for more — maybe nine months’ worth, or even a full year.”

3. What are the interest rates on your debt?

Your interest rates determine how expensive it is for you to carry your debt. They’re one of the most important factors for you to consider as you prioritize your financial goals.

Credit cards and some personal loans can carry double-digit interest rates that make it easy for your debt to build up. That, and the fact that these types of debts offer no benefit to you, are why they are considered “bad debts.” The Fed has also begun raising interest rates, which will impact the cost of borrowing. So Raess says that individuals with a lot of high-interest debt may want to prioritize paying down that debt once they’ve got a modest emergency fund set aside.

If your debts are primarily “good debts” like a mortgage or student loans, they probably carry much lower interest rates. In these cases, it can make more sense to focus on building your emergency fund before aggressively paying down your debt.

4. What other financial goals do you have?

While building an emergency fund and paying down your debt are both good financial goals, rarely are they the only goals you're working toward, Raess says. In reality, most of us have many financial goals that we juggle at the same time, like saving for retirement, saving for a down payment on a home or starting a business.

“It’s important every so often to zoom out and make sure that you’re not neglecting your other financial goals by hyper focusing on one of them,” Raess says. “It’s OK to pursue multiple goals at once. Just remember that it’s important to prioritize your goals thoughtfully so that you are on track holistically for both near-term and long-term goals.”

You don’t have to go it alone

If you’re still not sure whether you should focus your efforts on paying down your debt or building an emergency fund, consider working with a financial advisor. They can offer strategic advice, such as which debts you should tackle first, or how much of your money you should be putting toward each goal. Helping you understand your options is the first step toward shoring up your whole financial picture.

Certified Financial Planner Board of Standards Inc. owns the certification marks CFP®, CERTIFIED FINANCIAL PLANNER™ and CFP® (with flame design) in the U.S., which it awards to individuals who successfully complete CFP Board's initial and ongoing certification requirements.