Have you ever had your car break down or cause unexpected repairs? Have you ever worried that you might be let go from your job? Simply put, having an emergency fund will ease some stress from your situation should such bad days ever show up.
An emergency fund is like a first aid kit for your finances. It may appear to be a waste of space but if you get “hurt”, boy will you be glad that you have it!
Why do I need an emergency fund?
If you are faced with a sudden $1000 bill, it’s hard to handle such an expense from your regular paycheck. You’d probably have to resort to using a credit card, borrow money or withdraw from your retirement account. All of which could set you back through interest, taxes etc.
Having an emergency fund will help you face life’s worst-case scenarios without having to go into debt. It will shield you financially and help you stay afloat until you can get back on your feet.
Care to hear about the stress-relieving powers of an emergency fund? One night, we were on a road trip when our car decided to make whistling noises on the highway. We freaked out, took the first exit and stayed overnight at a motel. We had to sleep in a strange new place and we had no idea how much the repair shop was going to charge us the next morning. But we slept like babies because we knew our rainy day fund would cover it!
What should I use an emergency fund for?
This is the important part! Emergency funds are meant for just that – emergencies! Unexpected or sudden expenses that you have no control over. Here is a fun little list to demonstrate true emergencies! 😃
- Home repairs (but not for upgrades or renovations)
- Medical bills (for those in the US)
- Car repairs (but not for regular oil changes)
- Lay offs (they didn’t deserve you anyway 😠)
- Unexpected travel costs for a family emergency (but not for a spontaneous holiday in Cancun)
- To cover your paycheck if you have to take an unpaid leave for emergencies
Sinking Funds
For expenses like regular car maintenance, gifts (for weddings, holidays, birthdays), vacations etc., which are expected to happen during the year, you can set up sinking funds. It is a savings goal dedicated to a specific expense like a vacation sinking fund or a car sinking fund.
For example, if you spend $300 on car maintenance costs every year, contribute $25 every month to your car sinking fund. This helps you divide your expenses equally over the year so that you can maintain consistent savings each month. You won’t have the burden of paying for a huge expense in one month.
How to calculate my emergency fund?
As with everything in life, prepare your emergency fund for your most expensive worst-case scenario AKA losing your job. There is no one-size-fits-all but the most popular recommendation is to save 3 to 6 months worth of living expenses. Here are some questions to help you figure out your savings goal.
- Are you single or do you have dependents?
- Are you the sole earner in your household?
- Does your income fluctuate or is it fixed every month?
- Is your job in high demand? Or is your field in decline?
- If you lose your job, how many months would it take for you to find your next role?
Save 3-6 months worth of living expenses if you have a stable, full-time employment and your field is in high demand. If you are single, you could get away with a 3-month fund but if you have family or a dependent, you’ll want to save for closer to 6 months’ worth of expenses for the peace of mind. Also, if you are the sole earner in your family, consider saving up for more months.
Save for 6-9 months worth of living expenses if your job is more seasonal, part-time or if the job market in your field is slow.
Next, figure out the average of your monthly expenses over the last 3 months. Multiply this number with the number of months you are preparing for. That’s your goal!
How to save up for my emergency fund?
Now before you freak out seeing such large numbers, remember that it’s not meant to be a quick goal. It will take some time, all you need to do is START SMALL, create a plan and prioritize your savings.
Strategy for building your emergency fund
- Open a high-interest savings account (HISA / HYSA) dedicated to your emergency fund. It will at least earn you 1.5% interest compared to regular savings accounts which give 0.04%!
- Start small! Set a small target to deposit $500 or $1000 into your account. And start rolling from there!
- Make a plan and stick to it! If you need to save up $6000 and you can contribute $600 per month, you’ll achieve your goal in 10 months. Having a plan will help you visualize and work toward your goal and without having to worry every month about how much you are lagging behind.
- Decrease your expenses. Track your monthly expenses using a spending tracker and identify categories where you can cut back. Reduce your budget for this category by 20% each month until you’re happy with how much you’re saving!
- Pay yourself first. Automate your savings or transfer it to your savings account as soon as you get your paycheck and then spend the remaining. This is a great strategy to save consistently, especially if you are not one for budgets!
- Deposit any extra cash that comes your way into your emergency savings account. Example: the two extra bi-weekly pays every year, bonuses, tax refunds and gift money!
- Increase your income. If you’re motivated to ramp up your savings, try a side-hustle, a part-time gig or selling stuff online.
Parting thoughts
It may not sound easy but life without an emergency fund can potentially be a lot harder. Saving up for this goal helped me in more ways than one. Watching my savings account grow motivated me to continue saving even after I achieved my goal.
This important savings goals will start you off on a healthy financial foundation. You’ve got this!