The Ins and Outs of Emergency Funds
Emergencies happen. There’s no way to predict them, and often no way to avoid them, so you might as well plan for them. An emergency fund is a great way to do that.
What exactly is an emergency fund?
It’s a rainy day fund that you can add to regularly, and withdraw from only in an emergency.
How much should I save?
The ultimate goal for your fund depends a lot on your circumstances. If you’ve been living paycheck to paycheck or are in debt, start with a goal to build up $1,000 as your emergency fund.
Many personal finance experts recommend that you eventually try to keep three to six months of expenses in your fund—more if you have children, are the sole breadwinner, or are self-employed. How much you decide on is up to you. The important thing is to set a goal and work toward it.
Why not just rely on credit cards?
Credit cards can be truly helpful in an emergency—there’s no denying it. But if you need to use them, you’ll probably end up paying interest. With an emergency fund, you’ll earn interest.
Having a fully funded emergency fund isn’t just about the math. You might be amazed at how much more peaceful and confident you are, just knowing you have a financial cushion. If you’ve had problems with credit card debt in the past, your emergency fund can also help you avoid relying on cards ever again.
Where should I keep it?
Accessing the money in your emergency fund needs to be quick, easy, and free. One great option is to have a high-yield savings account linked to your checking account. Transfers tend to be fast, and you’ll still earn interest. For larger emergency funds, you might try a money-market fund or a mutual fund (preferably a lower-risk type, like a bond fund).
But I’m barely making ends meet!
It’s OK to start slow. The key is to start. Chances are there are at least a few dollars that you could use to start your emergency fund. Have you thought about tracking your spending? You might be surprised at how much money slips through the cracks over the course of the month. Make your emergency fund a high priority, and commit to making small changes in your spending so you can fund it.
What if I have to draw money out?
It happens to the best of them: Just when the emergency fund is getting full, the car breaks down or the baby gets sick. On the one hand, it’s frustrating to see your savings efforts wiped out. On the other hand, though, that’s what it’s there for!
When an emergency empties your fund, just thank yourself for your thoughtful planning, and start over.
What counts as an emergency?
This is something you’ll need to think about as time goes by. People who aren’t used to living within their means often think only of their monthly bills, and consider everything else an emergency. A visit to the doctor or dentist, a tune-up for the car, property tax and car insurance payments… In truth, these are just irregular bills that should be planned for.
A true emergency is one you couldn’t have seen coming. Someone hits your car, and suddenly you’re paying a $500 deductible. Your 3-year-old water heater dies—years before it’s supposed to.