How to Build an Emergency Fund (And Why You Need One)
When emergencies happen, your whole life can be put on hold. You have a death in the family, your car gets totaled or you find out quite unexpectedly you’re getting let go. These are considered emergencies because they must be dealt with right now and the severity can consume all of your attention. Not only that, it can also cost you a lot of money too. That’s why you need an emergency fund.
What is an emergency fund?
An emergency fund is an amount of savings set aside that can help you deal with any emergencies when they arise. Because they will happen, it’s not an ‘if’ they happen. No one is immune from this fate.
You want money set aside to help float you through this time. It’s tough enough to deal with emergencies from an emotional perspective and logistical perspective. Adding financial stress on top of that can make it even worse. Think of an emergency fund as your helpful guide to get you through the crappy times and lessen the financial stress and damage.
How much should you save in an emergency fund?
Typically, it’s a good idea to have three to six months of expenses set aside for emergencies. If you’re self-employed? Try saving a year’s worth of expenses. It’s important to have this amount because emergencies can come into your life like a hurricane. They can come very quickly but the damage can take months to repair and find a new “normal.”
So let’s say your expenses are $2,800 per month. That means a starter emergency fund with three months of expenses would be $8,400. A full six month emergency fund would be $16,800. It seems like a lot, yes, but that’s why you build up to that amount incrementally.
You’d hate to deal with an emergency but then also worry about paying your rent. If you can’t pay your rent, then you have two emergencies on your hand. Emergency funds can make bad situations more of an inconvenience instead of a full blown disaster.
How to start saving with an emergency fund
To get started saving with an emergency fund, open a separate high-yield savings account. Think of an online bank that gets higher APY such as Ally Bank and that you can’t access as easily as your primary bank account. You don’t want to touch this money unless there’s a real emergency.
Then, you want to calculate how much you need in your emergency fund. What are your expenses each month to live? Think food, rent, insurance, transportation. Know that number and then multiply it by three or six to get your desired emergency fund number.
Don’t panic! It’s a lot but you will grow it over time. Even if you feel like you can’t save a lot, save $20. It all adds up.
Look at how much you can afford to set aside each month and set up automatic withdrawals from your checking to your savings. Choosing a date after pay day can help and automating it can make sure you save, without a whole lot of effort.
Slowly but surely, you’ll build up your emergency reserves. It’s important not to get intimidated by the amount. It’s more about the consistency of building it.
You might wonder, should you save for an emergency fund if you’re in debt? Yes, especially if you’re in debt. Why? Because you’ll likely just end up in more debt if you don’t have any cash saved for when things hit the fan.
When you reach your emergency fund number, you can then throw that extra cash you were saving toward debt or your other goals. When the inevitable happens and you withdraw from your emergency fund to handle whatever fun curveball life threw at you, you work to replenish it. Having this liquid cash will help you deal with whatever comes your way and you can sleep better at night knowing you have a backup.
If you’re interested in learning more about The Financial Gym process and how our team of Financial Trainers can help you set up an emergency fund, schedule your FREE 20-minute consult call here.
Want to know even more about emergency funds? Watch our Trainer Stella Gold explain it in this video here.