A Starter Emergency Fund
What is an Emergency Fund and why do you need one?
A critical piece to being financially stable is the Emergency Fund. An Emergency Fund (EF) is typically 3-6 months of living expenses set aside in savings to be used in the event of something unexpected and requiring immediate action. Examples of emergencies can be a car accident, a major medical (or dental) expense, a drastic home repair, job loss, etc. Examples of non-emergencies can be any travel, gifts, home remodeling, treat-yo’self expenses, etc.
As fantastic as life is, sometimes there are stumbling blocks. In 2016 I was in a car accident that thankfully left me with minor injuries (though I do have the scars!), but also left me with no car. I struggled in the aftermath, but thankfully I had enough money in savings to put toward a down payment for another car. In that way, I didn’t experience the inability to get to work which would’ve furthered my stress. At that time, I didn’t have a fully-funded EF, but what I did have got me through!
The actual dollar amount of this fully-funded 3-6 month fund will depend on how much your monthly expenses total up to be. If there were a medical catastrophe or a job loss, 3-6 months of expenses in the bank might be all the difference between a bump in the road and the feeling you were thrown off a cliff.
How can I build up to a Fully-Funded Emergency Fun?
Now, 3-6 months of expenses can be a laughable amount when you are starting out. It was for me! No worries. A modest start, is still a start. As a Starter, $1000 is a good amount to work toward. One reason for this amount is most car insurance policies have a deductible of $500-$1000. A car accident would be one of the emergencies that we could not predict, but we could prepare for! When a car accident occurs, and we need to shell out for the deductible, it’s on-hand and ready.
This amount might also be enough to get by in a medical/dental situation. You may need to pay out of pocket for something necessary, and not meant to be put off. For the home, an imperative roof inspection, or a service call for a funky washer or dryer situation could also be covered by this amount.
By having a $1000 Starter EF in savings, your budget does not have to be thrown off course, just because life happens. Instead, these minor, unexpected expenses can be paid for with cash. You can go about your business, and work on replenishing the funds back to the baseline of $1000 in case of another emergency.
Which is more important: an Emergency Fund, or paying off debt?
I’ve stressed how important savings are, and how we serve ourselves by not spending more than we earn. If a solid budget is in place, and we are living by it, then adding a line item for savings is not as difficult as we might think. If you have no money reserved for your Starter EF, that is where your savings will go until you hit the $1000. This is your biggest priority.
It may feel uncomfortable to save toward anything if you owe money and you are trying to get out of the red. If you have any debt, definitely continue making minimum payments so you do not get hit with any penalties. However, any extra money should go toward getting that $1000 funded. After this Starter EF is reached, you can then shift your attention to debt payoff.
So if my budgeted savings amount is $25/month or $150/month or whatever, I continue to shove that money every month into a savings account. Then I pretend it does not exist. At the end of the month, after I have lived by my budget, if there is any excess cash leftover, I can sweep the leftover money into my Starter EF. The money will continue to grow, slowly but surely, and one day you will wake up and realize, you did it! You have a Starter Emergency Fund!
Once you’ve done this, you can examine your debts and get into full-fledged debt repayment mode. When you shift to debt-repayment mode, you should continue to have a line item for savings in your budget. You can adjust this savings amount to free up some money for debt repayment, but should never stop saving entirely. Saving consistently, every month (even just $10/month), is a lifelong habit. This will continue to build the savings/Emergency Fund in the background while you focus on more pressing things. Your debt repayment is a new type of “emergency” (yay)! You want to avoid paying more interest than necessary so we want to get these interest-carrying debts paid!
When you have knocked out your debt (more about this in another post), you shift right back to your Emergency Fund. Your line item for savings will continue to go into this account to build up to 3-6 months in expenses. The nice thing is, you will have some surplus cash in your budget because you are no longer paying any minimum payments (or extra) toward your debt. You can roll in all that debt repayment with your savings account and start pushing larger amounts into your Emergency Fund.
Now, you’re ready!
The concept of an Emergency Fund isn’t an original one, penned by me, by any means. Everything I have learned about an EF, came from various rabbit holes I fell down on the internet when I was starting to get my financial house in order several years ago. There are several different approaches, and you can merge a few different approaches to suit you. The important thing is, you do something.
Remember persistence is the key to any large goal. If we live by our budget, make a Starter Emergency Fund (and then a Fully-Funded EF) a priority, we are certain to get one step closer to Financial Stability.