Suze Orman Says Build Up Emergency Cash As Much As Possible
In Suze Orman's most recent book, "2009 Action Plan," she urges people with credit card debt to pay off their balances as quickly as possible using the high interest first method. "The fact that you pay just the minimum is a huge warning signal to your credit card company," she writes, "that you may already be on shaky ground." Now she's changed her mind and says you should just pay the monthly minimum and put the rest of your money toward building an emergency cash stash. Based on the way credit card companies have been behaving, we think she has a point.
Originally, Orman's goal was maintaining a high FICO score by having paid-off credit cards on your account. This served a second purpose, too: your active, paid-off cards provided a source of quick cash in case of a huge life emergency.
Now that credit card companies are slashing credit limits and unexpectedly closing accounts on customers—even ones with stellar payment histories and low debt-to-credit-limit ratios—Orman says all bets are off.
So here is the problem. If you do not have a stash of cash in an emergency fund and you have been using all your extra money to pay down your credit card debt and they keep closing your cards down-what are you going to live on if you lose your job? Chances are you may not have any available credit, or too little credit, to use in the event you are laid off. Nor will you be able to get a new card if you are unemployed.
So what's the right size for an emergency account? Orman says 8 months of living expenses, and even if it takes you a couple of years to build that up, this is no time to trust that your credit cards will be there for you in the months to come. Once you've hit that magic number, go back to clearing off those credit cards.
What do you think is the right amount of an emergency savings to build up, especially if you remove the safety net of open lines of credit from the picture?
"A Change in Credit Card Strategy" [SuzeOrman.com] (Thanks to Greg!)
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Comments:
Eight months? What happened to three to six months?
Telling people to pay off the higher interest cards first is just going to encourage card companies to raise their interest rates so they can be the ones paid off first so they can generate some cash flow.
I'm wondering about Orman's motive. This would perhaps forestall the massive credit card defaults everyone's expecting. It also would ensure a huge present for the credit card banks as your balance continues to rack up interest at those new sky-high rates as you build your savings. Whose best interest is this for?
My tip: Don't buy any books written by Suze Orman, and don't buy any stocks recommended by Jim Cramer.
She may have some good points, but it was posted here a couple days ago that credit card companies are cutting available lines of credit below current balances, causing customers to incur a fee. Presuming they're doing that on customers they find riskier, the strategy described above may cause customers to appear riskier, increasingly the likelihood of this happening.
Pick your poison.
@BeastMasterJ: I think the rationale is that nowadays, there is an increased likelihood that you may lose you job and not be able to find another one within 3-6 months.
This seems like a phenomally bad idea to me. Best case senario, you're paying 15% interest on you debt, and getting 4% interest from your savings account, which nets to a 11% loss. You'd be better off investing with Bernie Madoff.
"Gas prices probably will go down, I hope, to essentially $3 a gallon." - 9/17/08
I've quit listening to these people. It's clear no one knows what's going on and no one knows what's going to happen in a week or six months. Jesus Christ on a stick, why get yourself all worked up over so much speculation?
@Pinget: Having a way to live (financially) for 8 months or more is the critical first requirement. Before this mess, having a CC with zero balance, paid off each month, would have achieved that. But CCs can't be trusted, now. So if you have one, and have a balance in it, the only way you can be sure you have that much in liquidity is to leave it there, since paying it down won't assure you can use the card for that much in the future.
You are just a set of numbers in some risk matrix to them and when your numbers hit certain thresholds they do stuff to your account. The possiblity of people not paying their debts is in that risk matrix, if a credit card company goes out of business because people default then that is the company's fault for not being aware of that outcome. The credit card companies don't care about you and you should not care about them.
The thing I hate about general advice like this is that every case is different. I'm paying off debt since I have (relative) job security. I might suggest for my parents to do this since my dad's company could close any day. But unless your job is in imminent danger it makes more sense to keep paying off your debt.
B: So what happens when I finish paying off all of my credit cards(all 2, 9% and 7%-fixed) years early, loose my job, and have no savings?
If my cards haven't been closed, do I take out cash advances to make the mortgage payments, let the card chargeoff and have my credit ruined?
I don't think so.
Well if there is no food in your pantry then yes, you do whatever it takes to feed and shelter yourself and your family. Having ruined credit is better then living at the homeless shelter or digging thru trashcans for food.
While I think trying to save as much money as possible is a great idea, I think neglecting to put some towards credit card debt is just delaying the inevitable -- and making it worse when you do go to pay off the debt because of all the interest. A compromise of splitting extra money between savings and paying down debt seems to be the best approach to me. You're still getting some money in savings, but also not screwing yourself over.
@ Consumerist: FIX THE COMMENTS!
@ Pinget: You can put your cash in a credit union, it doesn't have to be a major bank. Suze is a practical and smart woman, and I've found her advice helpful over the years. I started working on an emergency fund after watching one of her programs a few years back, and within weeks of saving up 6 months' of living expenses, voila, I was laid off. Now that I'm married and own a home, stability means more to me than ever before.
When I was younger and could have afforded a payment on flashy car, Suze's advice always helped me get over my temporary materialism and return to the real world. Those habits helped me pay credit cards in full every month. By the time I was 22, I had a 740 FICO. I really have Suze to thank for this. Sure, some of her advice seems obvious, but in reality today's young people are woefully financially illiterate.
@B: This may be why you're not a financial adviser. This is not the time to try to earn more interest, it's the time to sock cash away and pay that 11% as insurance that you won't be out on your ass when you lose your job.
@B: That advice isn't about trying to make money off interest, it's about surviving the currently chaotic credit situation. Since even those with good credit and histories are getting screwed left and right, she's saying people need to make sure they have cash backing them up because AmEx or Visa may leave them high and dry. In the event of job loss, paying the bills trumps the bit of interest someone could make or loose in the immediate future.
How about this: Pay off your credit card and cut it up. Starting then, put everything into savings.
Where the he!! are you still getting 4% for your checking?? I'm there tomorrow!
And isn't this the same woman that was essentially shilling for Fair Issac (FICO)? To any advice from her I say, "no thanks". Common sense says to save as much as possible, especially these days. We don't need a fake financial guru to tell us that.
@Pinget:
I'm being laid off on 5/1.
I've been putting about 60% of my income toward student debt. That stopped the day I found out I was getting canned. Why? I can't pay rent with my credit card. I also can't pay my credit card bill with my credit card.
I'm paying minimums on everything and saving. Yeah, it sucks in the long run because I'm going to have a few thousand laying around at 0% interest when I've got some large balances, but I need it to be able to hold out until I find another job.
Once the job is found, I'll go back to paying tons toward debt.
How much for emergency savings? As rugman11 said, it depends on your job security. I have a job with nearly 0% chance of getting laid off. If by some chance something did happen, I could find another job within a month.
I try to have a good mix of paying down debt and saving to buy a house. Just made $500 payments on each of my 2 credit cards (paying them down to less than $1000 on each) after reading Consumerist's report about how to increase your credit report. ;)
I think Orman is offering excellent advice at this point. Getting a loan for a durable product is a difficult business, and getting a loan for consumables is very difficult. Cash spent to pay down a debt is cash not in hand to purchase the bare necessities that one may not be able to afford in the near future if the economy continues to degrade. Worse, if you run out of cash, you may find that the social services that you used to donate to may not be able to help by the time you need to ask for it. By storing cash, you guarantee that you'll be able to buy the things you need without depending upon the kindness of debt agencies and charities.
Orman has earned some respect from me by acknowledging that survival today is a different game than it was twelve months ago. Her advisements can't hurt and may help, and don't have any overt benefits to companies that she may be affiliated with.
It is definitely a "sky is falling" approach. You horde your money when you believe your personal economy is going to go in the tanker. And here's the thing, credit card companies can ruin your credit score and unleash collection agencies in your direction but they can't do anything more. On the other hand if you don't have money to pay the rent or mortgage after a layoff you can wind up in the street.
Just for background - I have been providing free help for the last few years to folks who, for various reasons, end up way down in debts and despair.
My first advice would be to forget any set rules regarding the number of months in security cash to build up.
Instead, make a budget. A REAL budget, one with all the expenses you have at the moment. Then a revised budget, one pared to the bone - your minimal financial responsibilities.
Then do a bit of investigation: Look at your skills, look at your job title, and ask around. Figure out how long you could expect to wait before finding an acceptable job. Find out what kind of "emergency" job you could get quickly, in a pinch, and how long iy would take to get that.
Combine both in a 12 months projection spreadsheet for your cashflow: Money in, money out. Boost your minimum financial by about 25%. If after 12 months you are still in the red, extent 6 months at a time.
The money you need in savings is whatever enable you to maintain break-even during that rough patch.
And I mean savings - cash. No financial instrument with any risk - no matter how low someone claims it is, and you know why! - and nothing that's locked, unless you want to build a ladder with some bonds, where you have something to cash every 30 days.
As to why not repay your credit cards first, considering the interest: Paying interest on your CC is better than losing house, car and going hungry in a cardboard shack.
Expecting your credit to serve as emergency cash is a bad idea: No guarantee it will be there, and with no cash is coming in, you end up kiting to make monthly payments which is prohibited by TOS and may cost you the card. What do you do THEN if that was your strategy?
Credit cards are increasing interests, so if you can only pay the minimum I guess the best course of action is to keep paying the minimum and hope your rate doesn't go up?
In a lot of cases that we've seen on the Consumerist of people whose credit line has been cut, it's been severe, sure, but none of the people cited seemed to be on shaky ground. If you are paying only the minimum every month, it seems like you may be indeed on shaky ground. It's a double-edged sword. Higher interest rates or emergency fund...not to mention the temptation to pull money out to pay off the card because the high interest rates make people panic.
If it were me, I'd pay off the debt as much as I can each month while still having an emergency fund. Debt will eat away at everything you've saved in the long run. Just get rid of it.
I've always like Suze and her advice books. As a 23 year old I'm happy to say I have $0 in "bad" credit card debt and am working toward paying down my car and "good" student loan debt I've just taken on for graduate program, which based on my savings schedule should be paid off by May of 2010. Unlike many of my friends who have their parents picking up the tab for their schooling and rent, I've mananged to tuck away about 4 months work of living expenses and keep working towards building up a bigger emergency fund. Right now I'm working in a job that doesn't offer benefits or health insurance for my position and instead of foregoing these expenses, thanks to suze's advice I've mananged to find a decently priced health insurance plan and have started a Roth IRA to work towards building retirement until my employment situation improves. She's help me become more savvy when it comes to spending money and is great at what she does. Stop bashing SUZE!!!!!
@ Cat_In_A_Hat *liked
@yodel:
checkingfinder.com - I am actually getting 5.02 on one account and 4.25 on another. Sweet site.
@sled_dog:
Amen Brother! My family has been on a cash, zero-debt existence for the last few years and life is so much sweeter for us. I highly recommend it but won't force it upon anyone or harp on it. I am here to help if anyone wants to delve into it further.
@Skaperen:
Yeah, I'm sure that credit card companies never realized that the highest interest cards are the ones that people (should) pay off first until Suze Orman told them that.
Paying off the highest rates first results in the least interest paid, which is what you're after. If your rates are all in the same ballpark, the "snowball" method (lowest balance first) may be the way to go; it results in more interest paid, but it feels good to pay off a card completely (or so I'm told, I've never carried a balance).
Suze's advice is good as always, but if you have any other source of backup money in an emergency (i.e. borrowing from a relative) you ought to pay off the credit cards first to avoid paying so much interest. The goal here is to make sure you're covered if you lose your source of income; if you can accomplish that and pay down your debt at the same time, that's ideal.
And if your employer matches 401k contributions (even if they only match 50%), you're probably going to want to max out that match; it's an instant 50-100% return on your investment.
With credit card APRs commonly in the double digits, and savings accounts almost universally below 5%, even 3%, either method will have its ups and downs. Proclaiming one over the other, in any economic climate, is poor advice.
Before you decide to shore up savings and let that 24% APR card fester for a year, consider your position! What's your job security? Can you see yourself staying for at least 1 or 2 months? 4 or 5? A year? Some people can, others could be fired tomorrow. Some may be assured severance pay. Know where you stand at all times. Prepare your resume, and start looking for a new job anyway. If you get a position, even while holding one, it's likely you'll get at least half a year of steady paychecks. If you're in a service industry or similar where job hunting works on different rules, then try to leverage any skills you've developed to break into a new career, even if it's not ideal. Consider sacrificing career goals for short-term security. My mother-in-law has been living like a queen in California on this model for years. It's not sustainable at all and it's fast catching up to her, but it works very well short-term.
What reserve cash pots do you have on hand, or how can you rebudget? Not everyone's investments have evaporated. Have yours? Maybe now is a good time to restructure your finances. Refinance any loans if possible (be cautious, obviously). Craigslist or trash those little used items or things you can do without that are costing money (your kids' texting plans? an above-ground jacuzzi? the XBOX? anything else that racheted up your credit card debt??). Seek carpool and sell that second car. Give public transportation a try. Lastly, it's a mortal sin to dip into retirement, but it's a possibility in a dire emergency, don't discount it.
More importantly, I want to retread on B's subject. Consider your cash potential when deciding between paying off the credit card and building up savings. Credit cards and other debts generate a large negative cash flow, while savings generate a small positive flow. Savings is an investment on future cash reserves, but each untended finance charge will, in the end, eat away at that reserve. Minimum monthly balance dues can be far lower than the monthly finance charges (beware!), but even if you're meeting the charge penny for penny each month, that's like tossing a little bit of your money away each cycle. At the way credit card rates are skyrocketing, it's a huge chunk of your money you're losing compared to near static money in savings. Every large chunk you take out of your debt, is a larger chunk next month you can devote to savings. Future potential vs. present stasis ... measure your situation and decide which side of the scales you should add to.
The worst, worst advice is that it's better to just go bankrupt than not have money in an emergency, so don't worry so much about the debt. No! There's balance. Sit down and think for yourself. Spend a night, or two, or four, or a week shifting your finances around, budgeting your expenses, reconsidering old investments and examining new ones, looking to the future, and working out a way to achieve both goals together. Slowly build your savings up while paying your debts off in as big a chunk as you can manage. Cross credit lines off your list as emergency cash reserves, but rethink your potential need for cash reserves in the first place.
Also, 8 months is pushing it. Everyone should have enough cash on hand to cover 200 years of unemployment, but you must compromise in the face of other responsibilities. The standard 3-6 months minimum is fine, even for present day. Going without a job for 6 months is just... I don't see how. At that point, forget rethinking finances and start rethinking yourself.
(As a quick tip, make sure you factor in insurance benefits you'll lose if you lose your job. Don't go without decent medical insurance!)
Buy gold.
Then buy more gold.
BUY MORE GOLD!
It's too bad Jean Chatzky doesn't get much love from The Consumerist. I find her advice more realistic, less shilling, and find her personally less annoying and much, much easier on the eyes. Yummy. Just sayin'.
@rugman11: Don't like Orman's advice? Just wait a couple weeks and it will change.
You're absolutely correct. My problem with advice like this is that probably Orman's never had to carry a credit card balance in her life. How is she an expert?
@B: Hear hear! I'm sick and tired of this woman being treated as a credible source of financial advice.
The SNL skits about her are hilarious, though.
Suze Orman is finally stating the obvious for people without the cash to just pay things off. It was obvious months ago, while she was spewing something way different. Her advice is always either misguided or too late. She assumes everyone in the US has buckets of cash sitting around waiting for her to tell you where to put it.
PBS needs to give her to the boot, too. Her PBS "specials" are merely infomercials she doesn't have to pay for.
why is the crazy looking woman upside down?