This article may contain affiliate links. We may get a commission, at no cost to you, if you make a purchase or sign up through the links. Please read our disclosure for more information.
Let me ask you a question. If your car breaks down now, you or your family member is hospitalized now, or you lose your job now, do you have the money to cover it?
It would be best if those things never happen, but life is very unpredictable and things do happen that we can never imagine. (I think 2020 has taught us that especially well.)
If you have enough surplus funds to cover unexpected expenses, you will be able to live with peace of mind every day and calmly deal with unexpected situations that may arise.
What is an emergency fund?
An emergency fund is the money that is saved to be used when emergencies happen, such as:
- Unexpected medical bills (yourself, family, pets)
- Car-break-down that needs to be fixed immediately
- Emergency home repair, such as plumbing leak
- Unemployment
Why is Having an emergency fund important?
Because it helps reduce your stress!
Worrying about money all the time can cause huge stress and affect your well-being. We all want to go about our lives without worrying about money all the time. An emergency fund can help achieve such a desire.
- It relieves you from the anxiety of hoping to get through the month without facing a crisis.
We can only hope that life will be kind to us and we can live in peace without encountering any difficult situations; however, the reality isn’t so.
Living with the anxiety of hoping to get through the month financially can be very stressful.
Having an emergency fund in place will give you the mind of peace and confidence that you can handle life’s unexpected events without worrying about money. - It relieves you from the burden of holding debt in times of need.
What would happen if you didn’t have enough money to compensate for unforeseen events such as your car breaking down, being hospitalized, or losing your job? You would probably have to use your credit cards or take out a loan.
Lack of money leads to borrowing money to cover emergency expenses and more debt if there is currently one to be repaid.
Having an emergency fund in place will give you the mind of peace and confidence that you can handle life’s unexpected events without worrying about money.
How Much Should you save for an emergency fund?
At least 3 to 6 months’ worth of living expenses.
Imagine you have lost your job. It is said that it takes 3 to 6 months on average to get a job. Therefore, it is a good idea to save up 3 to 6 months’ worth of living expenses in anticipation of such a situation. Even if you don’t lose a job, having that much money can cover you in case of other sudden expenses such as needing to repair your car or house, or sudden medical bills.
But 3 to 6 months’ worth of expense is just a guide. It all comes down to how much is enough for you to feel safe considering your living situation right now. Some of you may feel even a six-month supply is not enough.
My husband and I recently moved from the upstate area of New York State to expensive Southern California for my husband’s new job. Almost everything is a lot more expensive here than where we were. For example, house prices are three to four times higher. We had estimated how much our living cost would be, but we were worried that it would actually cost us more. Therefore, while we were waiting for the relocation, we saved up about 1.5 months’ worth of estimated living expenses as a short-term emergency fund dedicated only to the transition period, separate from the emergency fund we had already saved up. The money saved wasn’t a lot, but it was enough to cover the excess cost while we adjusted our expenses.
If saving up for 3 to 6 months’ worth of expenses seems like a high bar, you can start from as small as $500. Imagine having an extra $500 every month. It gives you a lot of peace, doesn’t it? In fact, even $500 can help you overcome a lot of financial emergencies. If you didn’t have to touch this extra $500, set it aside and start saving another $500. Start small and achieve the goal over time.
how to build an emergency fund
We looked at what an emergency fund is and an idea of how much you should save. Now, let’s look at how to build an emergency fund step by step.
- Calculate your monthly expenses
What are “monthly expenses”? Monthly expenses are the basic expenses you cannot survive without paying. The items include:- Housing (rent, minimum mortgage payment)
- Basic utilities (electricity, water, sewer, gas)
- Basic telecommunications (phone, internet)
- Groceries
- Transportation (car payments including gas, public transportation costs for commuting)
- Medical care
- Insurance (health, car, home, etc.)
- Minimum debt payment (credit card, monthly student loan payment, etc.)
- Other obligated expenses that need to be paid monthly (day-care, etc.)
According to the 50/30/20 method, your monthly expenses are supposed to be 50% of your take-home income, so the easiest way to calculate your monthly expenses is to multiply your after-tax salary by 50%. However, it is not uncommon for monthly expenses to exceed 50% of your after-tax salary. Building an emergency fund may also be a good opportunity to review your monthly expenses.
Related Post: The 50/30/20 Budgeting Method, The Most Simple yet Most Effective!
- Set your goal
Decide how many months of expenses you want to save based on your current and future situation. - Decide how much you save monthly or how soon you want to achieve your goal
How much do you want to save in your emergency fund each month, or how quickly do you want to reach your target emergency fund amount?
If you decide how much you want to save each month, you can divide your goal number by that amount to find out how long it will take you to reach your goal.
On the other hand, if you decide how quickly (in how many months) you want to reach your goal, you can divide your goal number by the months you set to find out how much you need to save each month.
There is no one way that is better than the other. It all depends on your circumstances and how comfortable you are. The most important thing is to start saving as soon as possible!
- Set aside the money and move it to your savings account.
Your emergency fund should be saved and managed separately from the money you usually withdraw. This way, you can monitor it easily and won’t touch it easily.
Every month, after you are paid, set aside the amount of money you have decided to save for your emergency fund and move it to your savings account.
I strongly recommend doing so automatically. Usually, banks or credit unions have services that let you move your money from your checking account to your savings account automatically. Or even your employer may be able to divide your paycheck and deposit to your checking and savings separately. It’s worthwhile to check relevant departments.
An emergency fund is like a superhero. You can live your daily life with peace of mind that it will protect you in case of emergency, and if a real problem arises, it will be there to protect you. It is important to build your own emergency fund. It may take some time, but if you continue to save even a little each month, the day will surely come when you will reach your goal. Let’s start now!
Do you have any episode where the emergency fund helped you in a time of unexpected situation?
If you are already saving for an emergency fund, what are your tips to save?
Leave a Reply