Do You Really Need an Emergency Fund?
Tax time is approaching, so this is a great time for all of us to evaluate our financial postition, and see what changes we might need to make. While many Americans get a tax refund, many find ways to spend that refund right away. That’s not always a bad thing, sometimes we put off larger expenses until this money comes in, or it’s a way to get ahead on some bills. I’d like to encourage you though to really think about an emergency fund, if you don’t have one.
Many people wonder whether or not they NEED an Emergency Fund. How do you establish an Emergency Fund? How much money should be in an Emergency Fund? Here are some ideas and suggestions that should help answer these questions.
Is an Emergency Fund Necessary?
Generally speaking, yes, an emergency fund is necessary. What form it takes can vary, but it is almost always a good idea to have one. Such a fund can help you avoid high-interest debt, and it helps reduce stress. After all, life is full of changes – many of them sudden and not good – and having that “cushion” can help you feel ready and calm. This can cover a sudden medical bill, large utility bill, food, gas, car repair, insurance deductible, or travel funds if an emergency arises (medical, natural disaster, etc).
How Do You Go about Creating an Emergency Fund?
First, determine your expenses. Look at three to six months’ worth of living costs and count on saving that much in a fund. It won’t be funded overnight, but any extra amount you can save each payday will help you get there. This can help you keep your standard of living for a time if you lose your job, or it can cover a large expense such as vehicle repair.
Next, determine how long it will take you to save the amount you’ve set as your goal and figure out how much you have to take out of your paycheck each month to reach that goal. It may help you stay motivated to set smaller goals at first. For example, what is your monthly grocery budget? Set a goal to save up that amount. Next, what is your monthly rent/mortgage payment? Set a goal to increase your emergency fund to cover food and housing. Next, what is your insurance deductible? Set a goal to increase the savings to cover this amount. If you save in smaller amounts, it will add up over time and might not seem so intimidating.
Once you’ve determined how much you need to save and how long it will take to save it, it’s a good idea to change your mentality to put payments into the emergency fund before you pay for anything else. If you can do it by automatic deduction, go for it – see if you can have a portion of your paycheck taken out and put into a savings account (This could even get a monthly bank service fee waived!). Otherwise, make it a habit to put money in your savings first and foremost, and then take care of your other expenses after.
What If You Have Low Income?
Even if you have low income, you can set aside something each month. Try saving a percentage of your income, such as 5 or 10 percent. It may take you longer, but it will accumulate. As my own kids approach the age where they can begin working, we’ve started discussing how to manage their money. They plan to set aside 10% off the top for savings, then budget from there. It may be minimum wage, and only $20 a week in the beginning, but in one year they’ll have over $1000 plus any extra they can save.
Does It Have to Be Huge?
In short, no. An emergency fund does not have to be massive – but it certainly should cover unexpected expenses. To determine the size of your fund, consider what sorts of emergencies you’d want covered by the fund. Remember that buying insurance may be a more cost-effective way to guard against emergencies, too – evaluate the scope, likelihood, and potential cost of possible emergencies and this should give you a clearer picture of how large your fund needs to be. Just be sure to save enough to cover the deductibles so if you need to file an insurance claim, you have your portion in the bank so you don’t have to stress about where that money will come from!
Do you have an emergency fund? What tips would you offer to someone just starting an Emergency Fund?