If you are struggling to pay your bills or find yourself not able to cover unexpected expenses, then you may benefit from an emergency fund. Experts suggest having a liquid fund of at least three to six months of living expenses.
Here's why: Your emergency fund covers you in the event of an unexpected financial blow and can help prevent you from going into debt. It also provides peace of mind if you lose your job, become too ill to work, or have to cover a major car or home repair. There are many reasons why you should work on padding your emergency fund. Read on for eight reasons you should have an emergency fund.
You're Trying to Pay Off Debt
Your emergency fund can help you stop adding to your debt with every financial bump in the road. An emergency fund can help cover the things you don’t budget for, like car repairs or medical costs. Use your emergency fund to handle these stressful events and make it easier for you to stay focused on getting out of debt.
- It is easier to pay extra money on debt right away when you have a cushion for unexpected expenses.
- Include an emergency contribution in your budget until it is fully funded.
You Just Started Budgeting
When you first start budgeting, you may be inadvertently leaving out some of the expenses that you need to plan for. Your emergency fund can cover some of these expenses the first year and then you can add those expenses into your budget as they come up.
This could be annual expenses like taxes or other items like gifts or fees for organizations. Your emergency fund can help you as you adjust to your budget.
- As unplanned expenses come up, write them down and adjust your budget to include them in the future.
- After a few months, you should not have any unexpected expenses.
You Only Have One Income
If you only have one source of income, it is essential to have a substantial emergency fund. That can help you get through an unexpected job loss or illness that keeps the primary breadwinner from working.
If you're a one-income family or you are single, you should have at least a year’s worth of expenses in your emergency fund. You can build up a larger emergency fund after you get out of debt.
- If you are just starting a family, you may need to increase your emergency fund.
- If you are single, work on building up your emergency fund as quickly as possible.
You Are Self-Employed or a Contractor
If you are self-employed, an independent contractor or if you work a job that does not allow you to claim unemployment benefits, it is important to have a good emergency fund in place.
Additionally, if you know that your contract may end soon, you should work on building up more money in your emergency fund.
- You may also want to plan extra savings for months when business is slow.
- Keep track of your invoices to make sure that you do not miss outstanding payments owed. This will help you avoid using your emergency fund.
You Own Your Home
When you own your home, you will have to pay for all of the necessary repairs and upkeep. Although you should set up a sinking fund to cover remodeling and most repairs, you may have unexpected costs like plumbing repair or air conditioning repairs.
Your emergency fund can help you handle these costs and make owning your home just a bit less stressful.
- Home repairs can be expensive, as is replacing an air conditioner or furnace. Try setting up funds to save for these expenses before they occur.
- Be sure to plan for your taxes in your budget.
You Live Far Away from Family
It can be expensive to travel home and the costs go up if you need to travel at the last minute for an emergency. It helps to have a good emergency fund saved up to cover the cost of last-minute tickets to go home or visit other family members in the event of a medical emergency or a funeral.
- Price the cost of an airline ticket and other expenses, and start saving up for that.
- Remember that last-minute bookings can often be more expensive.
You Have Medical Issues
A serious medical condition can cause you to max out your deductible each year. You may also have routine tests that add up quickly or need to use all of your sick leave and end up taking days off with no pay.
A well-funded emergency fund can help you deal with these costs and make it easier to get through these challenging times.
- Medical issues can be expensive and insurance companies may not pay everything that you expect them to pay.
- You may also miss work and run out of sick pay, which can lead to bigger issues. Your emergency fund can help offset this.
You're Saving For a Goal
If you are working toward a goal like owning a home or starting a business, your emergency fund can stop you from dipping into those savings when unexpected expenses crop up. This can prevent you from moving backward with these goals.
Although your progress forward may slow a bit as you rebuild your emergency fund, you will be able to leave the money that you are saving for you. This is a great way to protect your savings.
- An emergency fund can help you reach your long-term financial goals.
- Think of your emergency fund as an insurance policy against unexpected expenses.
Frequently Asked Questions (FAQs)
Where should I keep my emergency fund?
It can be a good idea to save your emergency fund in a bank account that's dedicated to this purpose. Don't include your emergency savings as part of your everyday savings or checking accounts. In fact, some experts recommend keeping your emergency fund account at a different bank entirely to avoid the temptation of dipping into it. Saving cash at home can be risky, because the money could be lost, stolen, or destroyed, such as in a fire—the types of events you're saving to survive.
How should I start an emergency fund?
Start with your budget and determine how much of each paycheck you can reasonably spare. Then make it a carved-in-stone habit to transfer that money to its dedicated savings account as soon as you're paid. You'll want the money you're able to save to grow for you, so consider an interest-bearing savings account with your bank or credit union. You might want to compare banks to pin down the one with the highest annual percentage yield (APY).
What is the 50-30-20 rule?
The 50-30-20 rule is a way of setting up your budget: 50% of your pay should go to must-pay needs, 30% can go to discretionary spending on things you want rather than need, and 20% should go to savings and/or reducing debt. You can adjust the percentages a little to suit your own personal goals and circumstances.