The Balanced Spreadsheet-Financial News, Budget Advice, Debt help, Financial Tips, and other advice

January 23, 2010

The Financial How to series Part III. How to start and maintain an Emergency Fund

Today in continuing with our January “Financial how to . . . .” series, we will discuss how to start and maintain an emergency fund.  After getting a budget started and knocking out your debt, the next step towards good financial health is the emergency fund

The Importance of an Emergency Fund

From personal experience, I can vouch for how important an emergency fund is.  It will help ease the pain of a sudden layoff by giving you a cushion to cover your monthly expenses until you get re-employed.  It also is a way to pay for unexpected normal life events such as your transmission going out in your car, a big medical emergency, or a broken heater in the dead of winter.

What it is not for

The emergency fund is what it is, a fund for EMERGENCIES!  Sometimes we can get emotional and get caught up in the moment and forget what an emergency is truly.  Normal car maintenance such as getting new tires after they get worn down is not an emergency and can be planned for in normal budgeting.  Home appliances breaking down that can be fixed but instead buying a whole brand new one is not an emergency but rather a want.  There is nothing wrong with buying wants, but wants come out of savings not the emergency fund. 

In addition to not being used for wants, the emergency fund is not used for long-term investing.  This will be discussed more below, but an emergency fund is not something that you take risks with.

How big of a fund do you need?

According to recent statistics from the United States Bureau of Labor, the average American is taking a little over 6 months to find new employment after being let go from their previous employer.  With that major statistic in mind I recommend somewhere between 5-7 months worth of expenses as a good solid emergency fund.  By setting up a budget you can know what your fixed monthly expenses are.  A smaller emergency than 5-7 months does not give you much space or time between some of life’s emergencies.  While on the flip side, an emergency fund up to or greater than one year is excessive to me because the money could be going towards better wealth creation tools such as paying down the mortgage or put in long-term investing. 

Where to keep your funds

As mentioned above the emergency fund is not an investment tool and something that you will be getting rich off of.  First, you are looking to keep your emergency fund somewhere liquid, which means someplace where you can get easy access to your money if needed.   Next, you will then look for something low risk as you do not want to risk losing any principal.  The higher interest rates are tempting but when you really need the money it could be down 20-30% leaving you without an emergency fund.  With all that being said, the best place to put it in is a simple money market account or savings account at a bank.  Right now the yields are pretty low at around 1% but remember this money is for emergencies not investing.  A simple search through either bankrate.com or despositaccounts.com can help you find the best rates available.

What an emergency fund allows

Finally after determining how much of a fund you need and where to place it you can now fully experience what an emergency fund allows.  It will allow you peace of mind at night knowing that you have space from a financial disaster if a financial emergency takes place.  In addition, when these emergencies do occur they will not necessarily be an emergency but rather an inconvenience.  This peace will allow you to concentrate on achieving your greater financial goals.

In conclusion the emergency fund might seem trivial and unnecessary . . . . until you have an emergency that is. : )  Ask anyone who has it in place and they will tell you how it has helped them out.

Next time in part IV of our “Financial How to . . . . . .” series, the topic will be how to start investing.

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2 Comments »

  1. […] Part III-How to start and maintain an emergency fund […]

    Pingback by The Financial How to series Part IV. How to start investing for retirement « The Balanced Spreadsheet-Financial News, Advice, tips, and more — January 29, 2010 @ 5:04 pm

  2. […] Emergency Fund-Staying pat at $10,000.  This number still represents about 5 months worth of expenses and is an amount that we feel comfortable with.  It is great to know that we have ten grand in the bank in case of medical emergency or job loss.  […]

    Pingback by Cash Breakdown March ‘10 « The Balanced Spreadsheet-Financial News, Budget Advice, Debt help, Financial Tips, and other advice — April 13, 2010 @ 12:00 pm


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