I'm unemployed and on a tight budget with 6 months of savings. Should I pay off my credit cards to avoid monthly payments even if it reduces half of my savings? Is there a risk of the bank reducing my credit limits after payment?
Should I pay off my credit cards to avoid monthly payments even if it reduces half of my savings?
Unless you can still live for quite a while with that half of your savings and no income, then no. Do not use the cards any more, make the minimum payments, live on a shoestring budget, and save cash like mad. Once you get back on your feet, use the cash you've saved to pay off the cards completely.
Is there a risk of the bank reducing my credit limits after payment?
Not because you're unemployed, no. They would only lower your limits if they feel that there's a risk that you will max out your current accounts and not be able to pay them based on your credit reports. Since income and employment status do not appear on credit reports, that would not be a reason for them to lower your limits. So long as you keep making payments on time and don't extend your credit any farther, there's no risk of lowering your limits.
However, credit limit is not your problem. You need to get some income so that you do not risk missing payments and destroying your credit. Paying the minimums (and the interest, which is the big problem) is only a temporary situation to keep you from becoming illiquid (out of cash).
Dave Ramsey, the famous personal-finance guru and radio personality, has a concept he developed after counseling thousands of families in crisis situations called the four-walls. The idea is to prioritize your money to take care of your immediate, physical needs. This would include your savings.
- First, you pay for food
- Next, you pay utilities
- Next, you take care of shelter
- Next, you take care of transportation.
- lastly, you buy necessary clothing. Most people, however, have adequate clothing.
If these needs are met, then and ONLY then would you worry about credit cards. It would be silly to lose one's home but have the Mastercard current.
If you pay off your cards, you may not be able to meet other needs.
Edit: If the amount of savings is large enough that paying off the cards still leaves more than enough money to pay living expenses for the most pessimistic time frame you could be of off work, then pay them off.
Also, in the exact order you would pay the immediate living expenses depends upon where you live and specific circumstances. If you own a home in the USA, it could take up to a year to foreclose. The idea is to pay the most time critical living expense first. I assuming the poster's savings are sufficient to cover living expenses and minimums on the card.
By paying off your credit cards now, you'll be losing money you won't be recouping in the foreseeable future.
I imagine the second part of your question is related to being able to use the unused credit to pay for living expenses. While it is unlikely they would reduce your credit limit after payment, that's the problem with being beholden to someone else for your spending money-- credit is someone else's money, and theirs to do with at their will. I personally have had (not credit card) limits reduced without warning based on a drop in my credit score. Check the terms of your cards to find out whether they reserved the same right.
Make the monthly payments. Here's hoping otherwise, but if everything absolutely goes to hell for you in the next few months, your remaining credit card debt can always be discharged through bankruptcy. But once they're paid off and you find yourself without money to pay the rent/mortgage, there's no way for you to get that money back.
You're insolvent, or will be soon. Admit it, put yourself first and tell your debtors to get in line. You need the money more than they do. There's nothing noble in prioritizing repayment of debt over your continued survival.
Others have mentioned this in comments, but I think it is worth having in an answer: the answer to this question depends on your situation.
If your level of savings is relatively low compared to your monthly expenses, the advice in D Stanley's answer and Ivan's answer is good because you may need the liquidity to pay your bills. I'm guessing that they're probably right, since you probably wouldn't have already been carrying a balance on credit cards if you had a large amount of savings.
However, if you do have a relatively large amount of savings (say, you have a year's worth of savings and you expect to be employed again within a month or two,) it might make more sense to pay off the credit cards because of their high interest rates. Aside from the payday loan shark joints, credit cards have some of the highest interest rates, often 20% or more of the remaining balance every year. There's really never a good time to be paying such high interest rates, but when you have no income is a particularly bad one.
In any case, you should try to find work as quickly as possible and reduce your spending to the bare minimum needed until you're back in a stable financial position. Ideally this would be after you've not only acquired a new job, but also paid off your credit card debt.
Pay of your credit cards. You run them up later again, if you run out of cash and have no other way of getting a loan.
Simple math: let's assume you owe $5000 at 18% interest rate. That's 75$ of interest a monthly The measly principle in the minimum payment will hardly make a dent into this.
Let's also assume you have 10k in cash and have a minimum burn rate of $1000/month. If you don't pay them off you need 1000 + minimum payment (maybe $90) so you will last roughly 9 months and still owe 5000.
If you pay it off now, you run out of cash after 5 months, since you only pay 1000/month. At the end of 5 month you just start paying with your credit card. This will last you longer because you pay a lot less interest. Probably close to 10 month.
Until you get a new job, you need cash (savings) and credit. I recommend that you continue making the minimum monthly payments on your credit cards, so you keep the cash and you keep your credit intact. Let's say you have 6,000 savings and 3,000 debt on a credit card with a 5,000 limit. You run out of money after spending 6,000 savings and another 2,000 debt, that is 8,000. If you pay off your credit card, you have 3,000 savings to spend - and the bank might figure out that you are out of work and cancel your credit line, and you are stuck.
In the UK, you often pay different interest rates depending on how much you repay, so make the payments giving you the best interest rate.
Don't spend any money you don't absolutely need to spend. Same in the first few months of your new job until your savings are back where they were, and if you didn't feel it was too much hardship, continue and using the money to repay your credit card debt.
Like most of the other answers here, it depends. But if you spend half your savings paying off your credit cards, then live off the other half while you look for another job, you could run out of money.
If you just pay the minimum payment on each credit card, then that would leave you a more generous cushion to tide you over. At this point, it's not about saving interest charges, but having enough to live on.
But in some cases you could pay off the card, and if you run out of liquid cash you could start charging your living expenses or get a cash advance. Just don't put yourself in a position where you would have to pass another credit check before getting money out again. Just don't skip any minimum payments; that would dry up your credit real quick.
I guess it comes down to how confident you are that you could find another job before running out of ready cash.
It depends on the interest rate on your card. If it is high (say, 28%), you should pay it off immediately. In fact, you should have done that a long time ago. There's no point in having savings at 0.5% interest and carrying debt at 28%, or even 12%. In your current precarious situation, you definitely don't want to waste precious cash on high interest payments.
From now on, you use your card for all purchases, and save your cash for payments that can't be made by credit card. Of course, you make your minimum payments on time; but they will be low since you're not carrying a large balance. Plus, you get the benefit of the grace period. Since you are still using your card, the bank has no reason to suspect anything is wrong. When your cash balance gets dangerously low, try to avoid using cash for anything other than making your minimum payment. For example, you could probably not pay your rent for a while, without any consequences. Or you might find a way to pay your rent from your credit card, e.g. via PayPal.
In your current situation, your credit score is the least of your concerns. Obviously you will not be buying a house anytime soon. Plus it's not clear whether paying off your card will lower your score at all, as long as you keep using the card and make payments on time. In any case, it will only affect future loans, if at all.
This approach will give you the longest possible time to find a new job without running out of money. The only disadvantage is the risk that the bank might cancel your card for random reasons, in which case you would be better off holding on to the cash you owe them. But in the current economic climate, that seems extremely unlikely.