One of the most important components of good financial health is having an emergency fund in place. Having a store of liquid savings at your disposal is your built-in insurance policy against the unforeseen and disruptive curveballs that life can sometimes throw at us—job loss, illness, or a major home or auto repair, to name a few. Think of your emergency fund as your “rainy-day” fund: Hopefully you’ll never have to use it, but your “umbrella” will be there for you, no matter what. Having a healthy emergency fund in place will determine whether you’re left at the mercy of the proverbial elements, or whether you’re able to safely navigate a financial storm relatively unscathed.
How Much Do You Need?
You know that you need an emergency fund—but how much should you have in it? Some suggest $1,000; others suggest that you should have 3, 6, or even 12 months of take-home pay tucked away. Of course, being able to cover up to a year’s worth of expenses would be ideal, but everyone’s situation is different. The size of your emergency fund should be contingent upon a few factors: whether or not you have debt, the stability of your household and income, the health of you and your family members, and whether you have a “safety net” of family or friends that you could rely on should times really get tough.
If you are paying down high-interest debt, and are starting from scratch with your savings, aim for first establishing a $1,000 emergency fund “cushion.” This will ensure that you won’t have to immediately turn to your credit cards to bail you out of a sticky situation. Set aside as much as you can per month. Even if that amount is only $50, modest contributions can add up quickly, and any amount is better than nothing. Don’t get discouraged—be proud of yourself for establishing a healthy new habit! It may seem impossible to find money to save in an already-tight budget, but you can try to generate extra funds by selling unneeded items, cutting unnecessary expenses, and/or picking up part-time work or gigs. Once you hit that $1,000 mark (and you will!), strive for banking a month’s worth of income.
When 3 Months of Take-Home Pay Makes Sense
So you’ve hit these targets—now what? If you’re single, child-free, have a steady paycheck, and do not suffer from chronic health issues, your emergency fund goal should be to have at least 3 months’ worth of monthly take-home pay saved. Once you’ve hit your 3-month goal, you can focus on other big financial priorities: saving for a down payment on a home, aggressively paying down student debt, investing in the stock market, or saving more for retirement. If the above describes you, but you also currently have a mortgage, shooting for 6 months’ worth of income saved is a smart idea.
When 6 Months of Take-Home Pay Makes Sense
Are you married with a mortgage and/or children, or a one-income family? Aim to save 6 months’ worth of take-home pay of the highest earner in their household. If you or a family member suffer from a chronic health condition that requires frequent trips to the doctor or recurring treatments/medications, six months’ worth of income is also the ideal minimum benchmark for which to strive. Even if you feel confident that you’ve factored medical expenses into your monthly budget, it’s still prudent to be prepared in the event that a health emergency strikes, resulting in loss of income or astronomical bills.
When 9-12 Months of Take-Home Pay Makes Sense
If you or your spouse are freelancers and/or your sources of income are unpredictable, you may want to shoot for 9- or 12-months’ worth of take-home pay (of the highest-earner’s income) socked away in your rainy-day fund. This will make work-droughts much more manageable, especially if an emergency occurs during one of these slow periods.
Other helpful tips:
- Make sure that your emergency fund can be easily accessed in case you need to use it. Your rainy-day savings should be liquid.
- Emergency funds should only be used for true emergencies—remember, a “want” doesn’t qualify as an emergency! Ask yourself: 1. Is it urgent? 2. Is it necessary? and 3. Is it unexpected? A “yes” to all three means that you have a financial emergency on your hands, and luckily, you’ve been preparing for a moment just like this!
- Consider designating a Share especially for emergencies to create psychological barrier between your emergency savings and other accounts that you may have, or consider depositing your emergency fund into a Money Management account (you can earn a higher dividend rate than in a standard Share Account, and still withdraw your money if you need to).
- Automate your savings if possible: Paying yourself via Direct Deposit from every paycheck will ensure that your fund continues to grow at a healthy rate, provided that you’ve put a manageable budget into place to prevent you from habitually dipping into savings.
- Consider using your tax refund or any other financial windfall to start an emergency fund, or to take it to the next level.
Remember, an emergency fund is an investment in yourself. While it may seem like a lot to save, having peace of mind is truly priceless. Start small and keep going—your future self will thank you!