Everybody knows they need an emergency fund. Right? Right. There’s some argument about how much to keep in your emergency fund, but the general rule is no less than $1000 and ideally 6-12 months of expenses. And common savings strategies says that you should keep that money in a nice comfy savings account that you can access as needed. But, let me play devils advocate for a minute here. Let’s say you had $1000 in your emergency fund. What could you do with that $1000 if it were freed up and spendable? What if, instead of having your emergency fund in a savings account, you used a credit card that had no balance on it?
You read that right. A credit card.
Take you’re average credit card with a $1000 to $5000 credit limit (higher if needed) and keep no balance on it. You’ve got a ready made source of funds, up to the limit, that you can access from just about anywhere. And, it frees up your emergency fund savings to pay down debt. Or invest. Or, you can still keep it in a savings if you want and just use the credit card to supplement the emergency fund so you don’t have to keep such a high balance on it.
Pros and Cons (My wife likes these lists and always makes me write one when making big decisions…)
Let’s look at the pros for using a credit card as an emergency fund.
- Cash is freed up for investing/paying down debt. Why earn 1% on your emergency fund cash when you could be paying off debt that you’re paying 10% or more on? Or, that you could be investing and possibly earning a nice return on?
- No balance needed. The card would be dedicated to the emergency use, so you wouldn’t carry a balance on it unless you had an emergency.
- Available anywhere. You can instantly access your emergency fund from anywhere your card is accepted. Which is virtually anywhere.
Now, let’s look at the cons for using a credit card as an emergency fund.
- Card could be closed. If you don’t carry a balance and never need it, there’s a chance that the card company could close your account and you wouldn’t be able to use it when you needed it. There are ways around that. You could use it for a specific bill each month and then pay it off just like you would if you were paying the bill normally. Problems could arise if you don’t pay that balance though and fill up the card. Then you wouldn’t be able to use it either.
- Interest charges. Nobody likes paying interest on anything. If the emergency is big enough and bad enough that you aren’t able to pay it off right away, you’ll start racking up interest. That can lead to a quick spiral into the same debt boat that you were in to begin with. Or worse.
I don’t know if I could recommend using a credit card as your only means of an emergency fund. But, I think you could make a pretty good argument for using one to supplement your current emergency fund. Let’s say your goal is to have 3 months expenses in your emergency fund. And that your expense are $5000 a month. That’s $15000 that will just be sitting in a bank doing nothing more than earning 1% interest. If you’ve got a card with a $10000 limit on it, you could pare that down to just $5000 in the bank and use the other $10000 to pay off a bill. Or invest in something.
I think the biggest problem with using a method like this is the potential pitfalls. If you are unable to keep the card active and balance free, you’ll have problems using it when you need it. If you do need it and are able to use it, but not pay it off, you could potentially end up in the deep water again. On the other hand, if you use up a cash emergency fund, you still need to pay it off, but you won’t have to pay interest on the part you used.
Using a credit card as an emergency fund is doable. But, I can’t suggest it for any but the most disciplined. One wrong step, and you could end up having more of an emergency than you would have normally if you just had a cash emergency fund. And that could lead to disaster.
What do you think?
Now, I want to know your opinion. Would you consider using a credit card as part (or whole) of your emergency fund? What about using a line of credit as an emergency fund source? Would higher interest rates on savings change your mind? What pros and cons did I miss?
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The purists will hate it, but I think it has a lot of merit.
The only concern I would have is that during recessions, credit card companies are prone to reduce limits on even their best customers.
In 2008-2009, two of my credit cards saw a 50% decline in their credit limits, based solely on the company’s decision to reduce lines ahead of a deep recession. I’ve never been late on my cards; in fact, I have I never paid even 1 cent in interest.
So, had those cards been my emergency fund of sorts, I would have been SOL.
@JT For certain, a decrease in the credit limit would be cause for some serious issues. Of course, only if you didn’t adjust accordingly when they reduced the limit. If you catch it and either get a different card or put the difference into a savings account emergency fund, it might not be so bad. Lots of timing issues that make the credit card a bit less ideal. But, there can be issues with getting your money out of a savings as well, so still not perfect.
This does make a lot of sense actually. In a true emergency, you need access to capital. A CC with zero balance and whatever limit is that access as a worst case scenario.
Of, you can just charge it and pay it off in a month cycle with no interest if you have the funds. Probably even a better move.
@Sam I think it can make sense. The more I think about it, the more I think it could be a part of a larger emergency fund system. A more advanced fund than the typical “one savings account” system that many of us have learned to use. All of our other finanacial dealings have evolved, so, why not the emergency fund?
I used a credit card as an emergency fund source and it didn’t work out too well for me. That was probably because I had used the credit on other revolving cards and the recession hurt me financially so I couldn’t keep up. I would only do it again if it were the only credit card I had and it had a zero balance.
I think you are right, the potential pitfalls are too great! A better choice may be a line of credit or a HELOC. It should be used sparingly though.
@latisha For sure, it would call for a very strict usage of that card as well as a good, solid, financial plan.
@krantcents I don’t know that the pitfalls are necessarily too great, but they are significant. Either way, responsible usage as part of a larger plan would be called for.
We have a savings fund specifically for emergencies. If this got used up then we would dip into our line of credit or our TFSA. Don’t think it’s smart to charge more onto credit cards unless you can for sure pay it off.
Very interesting post, I do this to an extent. I think one negative you missed is the steep charge for cash withdrawals on credit cards since you may need cash/checks to do things like pay rent.
This was exactly what I was doing until earlier this week. i always kept a credit card with $10K available in case of emergencies. Of course, i just put $20K on my cards so that’s gone, but still…
This strategy could be viable for people that have large illiquid assets, but maybe have already burned through their ready cash. Once the asset is disposed of, then the CC balance could be paid off.
But if irresponsibility is what brought about the emergency in the first place, access to a credit card might not to be a solution.
It’s very tough to convince people with credit card debt that they should save an emergency fund. They would be better off creating a budget and tracking every penny in and out of their lives so that they begin to live within their means and stop using the credit card for living expenses (which is much worse than using a credit card for an emergency fund). Then work towards eliminating your high interest debt before building up your cash reserve.
@Ty Yes, the cash advance fees could become an issue if you absolutely needed cash and couldn’t just use the card. Shouldn’t be too big of an issue if it’s truly a one time emergency though.
@sandy How did it work for you up to that point?
@101 Centavos Absolutely, the emergency would have to really be a true emergency. Not having enough money to buy any meat because you went golfing last weekend doesn’t count!
We keep our emergency fund in our TFSA and invest it along with our retirement money. If an emergency arose, we’d use the credit card, like you suggest, and that would give us plenty of time to liquidate some of the invested money and get it in our hands to pay off the balance before any interest accrued.