On this post, I’m taking it back to the basics of how to run an efficient emergency fund for yourself or family. The statistics report that only 39% of Americans have the cash to deal with a $1,000 minor emergency. Understand that a minor emergency can easily grow into a large emergency dependent on the situation. A simple hospital visit can grow from a $100 appointment to a $2,000 surgery.
When I talk with clients this is usually the area we begin because the majority of people don’t have any “Oh shit” money. And that is exactly what your emergency fund is for:
Oh shit I lost my job
Oh shit my car broke down
Oh shit I hurt myself and I’m stuck in the hospital
Oh shit my child broke their leg
In those type of circumstances, you will fall down on a money cushion to help ease the pain and worry. Because the last thing you want to worry about is how you will get money to pay for an emergency. Now, in the same situations if you don’t have an emergency fund you are forced to rely on credit cards, asking others for help or letting bills build up. Those choices are for financial illiterate individuals and that’s not YOU!
How Big Should Your Emergency Fund Be?
Calculating how much you should have in an emergency fund is rather easy.
Step #1 – Calculate your minimum monthly expenses (rent/mortgage, car payment, insurance, groceries etc.)
Step #2 – Determine your situation. Luckily there are only two choices.
3 Months of expenses needed – Married (both have jobs), steady roommate (who pays bills)
6 Months of expenses needed – Single, entrepreneur, married (only 1 person working)
Step #3 – Multiply the monthly expenses by 3 or 6 (whichever situation you picked) and that will equal how big your emergency fund needs to be
Here is a quick example. The Wasp is moving out of her dad’s house to start a new life. She is single and has $3,000 of minimum monthly expenses. Her max fund should be $18,000 ($3,000 x 6).
Where Should You Put Your Emergency Fund?
The temptation to pick at the money can drive you crazy which is why I suggest you store the fund away from your regular checking and savings accounts. Yes, that means finding a new bank for a new account. Also, the account should be an earned money market as they pay a higher APY than your typical savings account. I like to make it clear that inflation, currently 3% annually, is the silent killer in our society. When you store $1000 that same money won’t have the same purchasing power in 3 years. In those situations, if the money isn’t growing it’s not going to be much help as you may think. Last week I posted 5 high yield savings accounts that are ideal for an emergency fund. Those options will work for the majority but if you want to explore other options read my post on where to store an emergency fund.
What Counts As An Emergency?
The Webster definition of emergency is:
“a serious, unexpected, and often dangerous situation requiring immediate action.”
At any time you think an event is an “emergency” run it by the definition to see if it fits the criteria. I notice that most people will consider Christmas shopping, TV sales or friend’s birthday an emergency but we all know that it’s just unpreparedness. The typical emergency will be related to your health, house/car damage or losing a job. Save the money until a REAL emergency in life happens and you will be happy the money is there as a cushion.
Tips On Running An Efficient Emergency Fund
Treat it like a monthly bill – When we started saving for our fund we broke it down to monthly payments. Each month we treated it like a bill that needs to be paid and it worked!
Store it away from your checking accounts – Seeing a few thousands of dollars all the time can be a nasty temptation to take money out. Hence why it’s better to have the money out of sight of mind. Skip the temptation and move the money to a whole different bank
Continue to grow – After you reach the max amount you should have for an emergency it will be wise to continually deposit money. It can be a small monthly amount such as $25 or $50. The monthly deposits will help with battling inflation.
Having an emergency fund is a part of financial freedom like it or not. You can’t be free if you don’t have a source of cash set aside for an emergency. I strongly encourage to get started by saving the cash and following the information in this post.