Prepare for hard times with emergency fund

Dear Dave: I was wondering if I should save up three to six months of expenses, Baby Step Three, before I pay off my debt with the debt snowball – Baby Step Two. I'm self-employed and work on a contract basis. My current contract will be up in a few months, and I'll have to find another contract.

- Pat

Dear Pat,

In a sense, you're going to be laid off in a few months. I think it would be wise to prepare for that in advance.

Just paying the minimum payments on your debt for now, and saving up three to six months of expenses, would be one way to plan for that event. However, the day you get your next contract, I want you to take that emergency fund back down to $1,000 because you'll have gotten your stability back at that point. The good news is that you have a little while to be looking for another contract. That's a luxury not many people have when they lose a job.

After you bring your emergency fund back down, I want you in attack mode on the debt snowball. Every extra dime you can find needs to go to paying off debt. Sell some things if you have to, but get out from under that debt as soon as you can!

- Dave