How Big Of An Emergency Fund Do You Need While Paying Down Student Loan Debt?

Over 37 million Americans have a student loan, and the total amount of student loan debt stands at $1.03 trillion, according to 2013 data from the Federal Reserve Bank of New York (FRBNY). Over $85 billion of this amount is past due.

The average student loan debt is $24,301, and the FRBNY estimates that student loan balances now exceed auto loans and credit card debt. In fact, next to mortgages, student loan debt is the largest form of consumer debt in the country.

Almost half of the students and alumni who struggle to pay their student loans report that they are either unemployed or under-employed, while 52 percent state that their financial condition is “fair.”  In addition, 70 percent say that over the past four years, it has become harder to make ends meet.

It’s important to take your student loan seriously, since failure to pay it can significantly damage your credit. And unlike other debts that can be forgiven, the only way to make your student loan disappear is to pay it off.  Even if you file for bankruptcy, under normal bankruptcy proceedings, you will not be absolved of your student loan debt.

However, paying off a student loan or any other type of financial obligation should have no bearing on how much money you need in an emergency account. When an unexpected crisis arises, you need a sufficient amount of funds stashed away to deal with interruptions without disrupting your other affairs.

So how much money do you need? There’s no magic dollar amount that should be in your emergency fund but considering the following factors can help you gauge how money you need in your contingency fund.

Expect the Best, But Anticipate the Worst

First, consider all of the possible emergency situations that could arise. Without sounding like the prophet of doom, there’s an endless list of nightmare scenarios to choose from. In the blink of an eye, you could lose your job. Your car’s engine could die. You might need an urgent medical procedure that your health insurance doesn’t cover. If you’re a homeowner, your house could be in the path of an angry storm -- and standard insurance policies don’t cover some disasters, such as flooding and earthquakes.

Even for catastrophes that are covered, your deductible may place a strain on your finances. Considering everything that could go wrong, it’s imperative to have a sufficient amount of money in your emergency fund to handle urgent situations.

About That Student Loan

On the other hand, your student loan debt is a weight that you probably want to pay off as soon as possible, so you should certainly keep making monthly payments.  Also, if you can pay your student loan off sooner, rather than later, you may save thousands of dollars in interest.  However, don’t let this incentive deter you from building an adequate emergency fund.

Fortunately, most student loans have a much lower interest rate than some other types of loans, like credit cards. Also, in the event of a financial setback, most student loan providers have an income-based repayment plan that will allow you to lower your payment amounts to match your current salary. They also offer other options such as a deferral or forbearance for temporary financial hardships.

Credit Cards Are Bad Debt

Speaking of credit cards, another reason to have a sufficient amount of money in your emergency fund is to avoid using your credit cards. According to CNN Money, there’s “good debt,” and there’s “bad debt.” Student loans are considered good debt, while credit cards are considered bad debt. And bad debt in the form of maxed out – or nearly maxed out – credit cards reflect negatively on your credit report and decrease your credit score.

In addition, even if you have a credit card with a low interest rate, one late payment could increase your interest rate significantly, so don’t rely on credit cards if you don’t have to. Some introductory credit card offers may start out with a low 7 percent or 8 percent interest rate, but after 6 months, your interest rate may increase to 17 percent or higher.

The Magic Number

There is no definitive answer regarding how much money you should have in your emergency fund. Since a lack of income is perhaps the single largest factor that affects your finances, if you lost your job, consider how much money you would need to survive and pay your bills until you could obtain another job. The equivalent of six month’s salary is a conservative estimate, but it has taken some people a year or two – or even longer - to find employment. And some of these people have had their cars repossessed and their homes foreclosed on because they could no longer afford to make payments.

After Rummaging Through the Sofa Cushions

If you struggle to find money to stow away in an emergency fund, consider making adjustments in other areas. For example, if you have cable TV, consider downgrading to a basic cable package, or shop for less expensive competitors – but check to be sure you won’t be breaking your contract or you’ll incur early cancellation fees.

Also, if you only use your home Internet for surfing the Net, you may be able to save money by switching to a lower Internet speed. In addition, some companies offer a $10 monthly discount if you enroll in automatic billing. That’s one painless way to save $120 a year.

Ultimately, you’re the person who has to be content with the amount of money you put into an emergency fund.  However, it should be an amount that will allow you to be comfortable and feel that you have prepared sufficiently.

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