I have spent most of my career as a financial adviser with a degree in Psychology and the designations of ChFC, CLU, and CRPC.
Why Do I Need an Emergency Fund?
Life is full of unplanned events and financial emergencies that can be damaging in many ways. Think of an emergency fund as a safety net underneath all the other financial goals that you want to achieve. Having an emergency fund provides security so that you can get back on track with your budget and financial goals.
Creating an emergency fund will help to avoid a major financial setback. The emergency fund can help prevent accumulating a burden of debt and to avoid turning to credit cards for those times when a financial crisis occurs.
You need to have emergency savings account in place before you start long-term investing or retirement planning or funding a child’s college. Emergency funds create a stable platform for other financial goals to exist.
How Much Do I Need to Save?
Financial planners will recommend that you keep 3 to 6 months of living expenses in an emergency savings account. This may vary depending on your marital status and whether you are the sole wage earner.
If saving six months of living expenses sounds like an impossible task, then start by setting a goal of saving $1000. Saving just $20 a week for 50 weeks allows you to reach your goal of $1000 in less than a year. That means you only have to save $3.00 a day. Start small and be consistent.
Adjust the amount of the emergency fund depending on the risk factors in your life such as job stability. If you have plans to make a career change, that emergency savings account would allow you to continue paying your bills while you look for a new job.
Where to Place the Emergency Savings
The ideal choice for an emergency fund is a savings account at a bank or credit union that allows you to access the money when a true financial emergency arises. You want the type of account that offers no risk to the balance so money market funds and savings accounts are appropriate. These are low yielding accounts but they are secure. Short-term certificates of deposit (those that mature in less than 90 days) may also appropriate, especially if you have several certificates available with various maturity dates.
It is best to keep the emergency funds separate from those checking accounts where you have frequent withdrawals. If you need to put some distance from your regular bank checking account in order to keep from using the emergency funds, try using a different location or a credit union out of your area. Select a bank savings account that does not offer checks, debit cards, or ATM cards if that helps you avoid the temptation to make withdrawals.
Steps to Create an Emergency Fund
As with any journey, you need to make a plan and set aside the resources that are needed to reach your destination. Starting an emergency fund is the beginning of a financial journey that will serve a lifetime of needs.
1. Know Your Financial Picture
In order to start saving, you need to create a budget and determine where the inflow and outflow of your money is going each month. This budget will help to keep your savings goal on track with the reality of your income and expenses.
- Take inventory of all your income sources and determine your take-home pay
- Make a list of the fixed expenses that you must cover each month
- Establish the amount that is available for savings
2. Set a Savings Goal
Make a long-term plan but start with small steps. Set a savings goal and a reasonable timeline to achieve it.
Add some savings strategies into your daily life with minor adjustments. Some savers find ways to set small goals by skipping that coffee latte three times a week or taking their lunch to work. It is these little saving habits that add up over time and establish an action plan that is doable for you.
3. Follow the Discipline of Saving
Set up an automatic deposit from your paycheck directly into the emergency fund so that you don't have to think about it each payday.
When you get a raise or bonus, re-look at the savings amount and increase the percentage that is going to the emergency fund. When you get a tax refund, take 10-20% of that amount to place into the emergency fund. Maintain the goal of saving at least 10% of your paycheck as a way to pay yourself first.
4. Monitor and Adjust Your Goal
Review your emergency fund after several months and increase the amount you are saving over time. If your work or financial status changes, adjust the savings plan. And if the emergency funds are needed for a legitimate reason, then go right back to building up the balance again
Emergency Funds Provide Security
Creating an emergency fund will provide peace of mind by establishing a solid financial platform to reach your goals. An emergency fund helps you recover from those unexpected bumps in the road. The stability of an emergency fund allows you to gain independence since you can provide for your own needs without depending on others or going into debt.
This article is accurate and true to the best of the author’s knowledge. Content is for informational or entertainment purposes only and does not substitute for personal counsel or professional advice in business, financial, legal, or technical matters.