Keeping your emergency fund for the true financial emergencies
One of the most important building blocks for a sound financial future is to be prepared for the unexpected…and having an emergency fund is the key to being prepared financially. Many times emergency funds are derailed because we don’t have enough saved or we use them for non-emergency items.
The first question is usually about how much one should have saved in an emergency fund?
Conventional wisdom is to have 3 – 6 months of living expenses in your emergency fund, especially for drastic situations such as loss of a job. Living expense are defined as the minimum payments on loans and credit cards, utilities, food, insurance and other essential expenses like healthcare, etc. Non-essential items would be entertainment, gifts and items that are discretionary expenses.
How can one protect an emergency fund from being used for non-emergency financial needs?
First, develop a list of why and when you will use your emergency fund and how much you have saved for each of these financial issues. If you can save for specific emergencies that is the best approach, for example, having a fund for a job loss (living expenses), one for car repair, one for healthcare and one for unexpected home repairs. This approach helps make sure you don’t use the emergency funds for something that isn’t an emergency.
Secondly, make it a little difficult to tap that emergency fund. Amazingly, the easier it is to get the money, the more likely you are to declare a financial crisis. Having your emergency fund in a separate account from your main checking account is a good start. Don’t make it too difficult, just have enough difficulty that you will really consider before making the transfer.
How does an emergency fund help with staying on a budget?
Most often, our budgets are derailed by the unexpected expense. Having an emergency fund helps to keep your budget on track because you have prepared ahead of time for these expenses. If you have detailed what and how much you have to spend for each financial crisis, it also helps you make decisions on what to do. For example, if you have the money to fix your car, it will probably keep you from buying a new car that has a higher payment than the car you own.
Is there any other advice for emergency funds?
Yes, save money for unexpected fun things too and that will be a triple win - it protects your budget, your emergency fund and your happiness. If we don’t plan for unexpected expenses like playoff tickets, concerts, weekend trips, etc, we will most likely tap our emergency fund repeatedly to take advantage of this once in a lifetime moments. Be realist and start saving now for those opportunities that are sure to come up - in the long term you will have more money and more happiness
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Categories: Budgeting, Saving