Just before Christmas in 2018, nearly a million US federal employees learned that their next paycheck may not arrive due to a government shutdown. The longest shutdown in US history lasted 34 days and left many workers unable to cover basic needs like food, shelter, and utilities. My heart goes out to these families. The fear and uncertainty must have been overwhelming, especially for those without savings in an emergency fund.
According to Bankrate’s 2019 Financial Security Survey, only 40 percent of Americans could cover a $1000 emergency without borrowing money. Among those families who faced a financial emergency, 36 percent reported that the unexpected expense was more than $5000. Since emergencies happen to all of us, I thought it was time to talk about emergency funds and share three simple ways to start one.
What is an emergency fund?
As the name suggests, an emergency fund is money you have set aside to cover unexpected expenses. I haven’t met a single person who is immune to these emergencies and that includes me and my spouse. If you’re a homeowner, chances are you’ll need a new roof or furnace someday. Everyone who drives a vehicle knows how it feels to have an unexpected expensive repair bill. And I pray you never fall ill or lose your job, but it makes sense to be prepared just in case.
Why you need one.
Having cash set aside for the unexpected dramatically decreases your stress level when the unexpected does arise. Simply having an emergency fund when our furnace went out last fall made a potentially stressful situation a minor annoyance. Sure, I would rather have spent that money on bikes or a canoe. But I was grateful that we didn’t have to worry or fight about where the money would come from.
An emergency fund will also help you get out and stay out of the cycle of debt. It’s easier to pay off debt if you’re not adding additional $5000 emergencies here and there. And once you’ve eliminated those debts, an emergency fund will ensure you don’t slide back in.
Just think what you could do with all of that money once you’re no longer giving it to banks.
How much do you need in your emergency fund?
The amount you should have in an emergency fund is different for everyone. Most financial experts suggest three to six months of living expenses. That’s not your monthly income, but what you need to get by if the checks stopped coming. Check out this link to learn how you can figure out what that amount is for you.
Three to six months is just a guideline. Some people need more and others need less. If you’re a young college student, you likely have very few bills and expenses and can get by on much less. And if you’re nearing retirement, you could add a little more cash to allow for market fluctuations as you wind down your career.
Other situations that could affect how much you need to save include households with one income, young couples starting a family, and homeowners. Anyone with medical issues would also benefit from a little extra padding. Those who are self-employed or independent contractors may want to have additional cash handy as well.
It’s up to you to figure out what number is right for you and baby step your way there. Start with a goal of $100 to $1000. Then work toward three months of expenses. Finally, consider your personal situation and add anything else you feel necessary.
Where should you keep it?
For some of you, this is going to be a large chunk of cash. It’s tempting to want to use your money to make money and invest it in the market. But let me remind you what happened in 2007 at the start of The Great Recession. I clearly recall the unfathomable dips in the market and remember being grateful that I wouldn’t need to access that money for many years to come.
Both stocks and real estate can experience extreme highs and lows over a relatively short period of time. What if you put your emergency fund into the market at a peak and needed it in a valley? You’d likely be in the same place you were before you hand an emergency fund and need to borrow money.
The better option is to leave it in a high yield money market account. Since the interest rates remain low at the time I’m writing this, you won’t get rich off your emergency fund. But that’s not the point.
The point is to insure yourself from the unexpected.
To find money market accounts with the highest yield, do a quick web search and do a little research. Bankrate.com is a great resource for all things interest related.
When should you use your emergency fund?
Again, as the name suggests, ONLY in an emergency. New bikes and canoes do not constitute an emergency. (Well, maybe if they’re your primary mode of transportation, but in our case, they’re not.) Likewise, most clothing, shoes, and home goods are not an emergency. And those concert tickets and fancy restaurants? Not a chance!
I could go on and on about what isn’t an emergency but that seems futile since it’s somewhat subjective. Here are some things that might constitute an emergency. A leaky roof, broken furnace, and exploding hot water heater all fall under emergencies. Repairs on a vehicle that you need to get to your place of employment is also an emergency. Lifesaving medicines and treatments are definitely an emergency.An emergency is something you CANNOT go without, not a minor inconvenience. Click To Tweet
Three ways to start an emergency fund.
There are many ways to fund your emergency savings. To keep it simple, I’m going to stick to three main categories. You can use your imagination from there and find other fun and creative ways to build your emergency empire.
1 – Sell Your Crap
A friend recently shared a fun fact that the average American household has over 300,000 items in it. I struggle to imagine what that even looks like. And at the same time, I believe we weren’t that far off before we downsized all of our crap.
If you live somewhere for a while, stuff accumulates. Until last fall, we had a basement full of crap that included boxes that moved in with us 15 years earlier that we never bothered to unpack. There were gifts still in there wrapping, dinnerware we purchased for a party and only used once, and other things we had long forgotten about. We tossed a bunch in the trash, gave even more to charity, and even managed to sell a few thousand dollars worth of junk.
Check out this link to learn more about how to sell your crap quickly and get what it’s worth.
2 – Cut Your Spending
Most of us have plenty of things we could cut from our budget. I could go through my budget right now and find a nice chunk of nonessentials to cut. Some of you might be thinking that this whole emergency fund thing doesn’t sound fun anymore. But let me assure you, we’ve done the work and it’s worth it in more ways than you’ll ever know. You can learn more about the surprising benefits of cutting your spending in this post.
3 – Make More Moolah
A couple of great ways to make more money is to get a raise or start a side hustle… or do both.
When I had “real jobs” I never tried to negotiate my pay and that was a big mistake. Many employers will pay the bare minimum to keep you. It’s up to you to negotiate to a level that compensates your value and is fair for both of you. If that’s not an option where you’re at, consider a new job or an entire career overhaul.
There’s also the option of starting a side hustle. Almost everyone has skills and talents they could market on the side that have great earning potential. I love Chris Guillebeau’s podcast, Side Hustle School, and his book Side Hustle: From Idea to Income in 27 Days.
ALL OF THE ABOVE
The quickest route to financial freedom is employing all of the above. But I caution you to start small. Sometimes doing more than one thing is as productive as doing nothing. Pick one thing, make it a habit and part of your and lifestyle, and then consider adding another.
A fully-funded emergency fund is an essential part of any good financial plan. No matter where you are, don’t get overwhelmed by the numbers.
One dollar at a time is all it takes. Before you know it, you’ll be enjoying the peace and security of an emergency savings account.
What are your best tips for saving for unexpected expenses? Share in the comments below or come start a conversation on Facebook.