Have you ever felt like you FINALLY got your finances in order just in time for something to come out of the blue and screw up your whole plan?
I’ve been there- more than a few times.
I was one of the 40% of Americans who couldn’t find $400 to pay for an emergency without putting it on a credit card.
After the second time an emergency wiped out most of my savings, I decided it was finally time to build an emergency fund.
Now I’m sure you’re wondering: What is an emergency fund? Do I need one? And where the heck do you put it?
Keep reading for all of your answers below!
What is an Emergency Fund?
An emergency fund is exactly what it sounds like- it’s a fund for you to pull from if you run into a total emergency.
What constitutes an emergency-fund level emergency?
It’s the big stuff.
If you lose your job, have a major medical emergency, your car breaks down, something breaks in your house and it has to be fixed immediately, etc.
Now, for some of these emergencies, you may have seen them coming and you’ve already been saving into your sinking fund.
But an emergency fund is for something you didn’t see coming and didn’t have specific money set aside for.
It’s a safety net to keep you from landing yourself in a crisis and falling deep into debt over an emergency.
Do I ACTUALLY Need an Emergency Fund?
Unless you have a lot of disposable income hanging around every month AND you’re debt-free, the easy answer is yes.
Maybe you just want to save a little bit for an emergency because you don’t have big emergency expenses.
If you’re thinking “I’ll just put an emergency expense on my credit card,” let’s dig into what that’s going to cost you.
Let’s say the transmission blows in your car (trust me, it happens!), and you are stuck with a $4,000 bill.
Your car has been running fine for the few years you’ve owned it, so you didn’t have a car repair sinking fund. Why bother if you didn’t need it?
Now you’re stuck with this ugly debt- but you can put it on your credit card!
So you put it on your credit card with a 26% interest rate and start paying it down slowly.
If you want to pay that card down in a year, you’re going to have to find $377 in your budget for the next 12 months, and it’s going to cost you $523 in interest for borrowing the money.
If you can only pay the minimum fee of $120, it’s going to take you 5 years, and you’re going to pay over $2,500 in interest for borrowing that money.
Do you have an extra $377/month to pay it off in a year? Do you have better ways to spend $2,500 over the next 5 years?
As someone who’s gotten stuck in this situation, I can promise you that the answer is YES.
How Much Should I Save in My Emergency Fund?
There’s a lot of talk about how much belongs in your emergency fund, so let’s start with the basics.
Calculate Your Monthly Expenses
Since the biggest life emergency would be anything that prevents you from working your job and bringing in an income, the best way to calculate how much you need in an emergency fund is by calculating your regular expenses.
If you lost your job or had a major medical emergency that prevented you from working, you will still have to pay your bills.
Take a look at your budget (and if you haven’t made one, click here for my guide to get started).
You may have lines in your budget that you wouldn’t be spending in an emergency, so take a look line by line and see what you would cut.
In an emergency, you would have to pay your rent or mortgage, buy groceries, pay utility bills and insurance premiums, and likely keep paying your minimum payments on any car loans and personal debt.
However, you would probably cut out discretionary expenses like going out to eat, grabbing your weekly Starbucks, and buying clothes.
Subtract those non-emergency lines from your budget and see what your remaining number is.
We’ll call this your survival number– it’s the amount of money you need to survive an emergency without taking on any extra debt.
How Many Months of Savings Do I Need in My Emergency Fund?
Here is where emergency funds get a little bit tricky.
Most financial professionals recommend saving somewhere between 3 and 6 months of your expenses, which would cover most medical emergencies or unemployment periods.
How do you decide?
Let’s look at your current employment situation.
Two big questions: How likely are you to lose your income in the next few months? And how long would it take you to find a similar paying position if that happened?
Is your income stable? Are you on a contract, working hourly, or a full-time hire? Do you have a side hustle to keep you afloat while you look for a new job? Would it be a challenge for you to get a new job quickly?
If you have a job with high job security, and you’re in a highly employable field, stick with 3 months.
If you have a narrow skillset and your income would be harder to replace, aim for 6 months.
And if you fall somewhere in the middle of these, plan for a 4-5 month emergency fund.
Because you don’t know exactly what the future will hold, choosing the time period for your emergency fund isn’t an exact science, but this should get you close to what you need.
What About a Bigger Emergency Fund?
Would I ever recommend saving an 8-12 month emergency fund? Probably not.
Let’s say you should probably save $10,000 for 4 months in your emergency fund, but you decide to double it to $20,000 for 8 months.
If you didn’t need to touch that extra $10,000 for 10 years, you would probably make about $500 in interest holding it in a high-yield savings account at .50%.
But let’s say you put it into a relatively conservative investment account and left it for the same 10 years.
That same $10,000 would have gained more than $8,000 in interest at a pretty conservative 6% rate.
By holding onto extra money, you’ve lost out on about $7,500.
Worth the risk if you never had a huge emergency, and your money just sat in your savings account?
Where Should I Save My Emergency Fund?
Let me clarify: I am NOT recommending you put your emergency fund into stocks.
Over the years, I’ve heard multiple people say “I store my emergency fund in the stock market.”
DON’T DO IT.
Your emergency fund is NOT for taking risks.
I recommend researching an High-Yield Savings Account (HYSA).
Why an HYSA?
If you’ve ever taken a look at your standard bank savings account statement, you’ll notice that it’s common to see rates around .05%.
Check that decimal. Your money is making virtually nothing being invested in a standard savings account.
On the other hand, the average HYSA will have a rate around .50% – TEN TIMES what you would normally see!
Because you don’t know when you’ll need your emergency fund, it’s worth keeping it in an HYSA where it will make you a little bit of money before you need it.
A checking account with a balance of $4,000 will yield $0 in interest over 1 year.
A standard savings account with a balance of $4,000 will yield $2 in interest over 1 year.
An HYSA with a balance of $4,000 will yield $20+ in interest over 1 year.
Bottom line: Keep your money in a safe, stable place, but let your money make you money.
It Sounds Like I Need a Lot of Money in My Emergency Fund. How Can I Save That Much?
Remember that savings goals are met step-by-step, not all at once.
If it was easy to save 3-6 months of your expenses, you would have done it already.
Set small goals to build up to your big emergency fund goal, and celebrate each time you’re able to save for another month.
Find ways that work best for you to save:
- Set up your budget and use any money you’ve saved on discretionary spending to fill up your emergency fund.
- If you receive any big cash inflows (tax refunds, bonuses, stimulus checks), put part or all of it into your emergency fund.
- Try a no-spend week or month and move that money into your emergency fund.
- Start up a side hustle, like delivering food or picking groceries with Instacart, to save specifically for your emergency fund.
- If you’re spending money online, use cashback apps like Ibotta and Rakuten and deposit the cashback into your emergency fund.
- If you don’t have room in your budget or time to start a new hustle, do what you can with the time and money you have. Gather up spare change you find around the house or when you’re out walking in the neighborhood and save it for your emergency fund.
Just remember: Every little bit counts and helps save you stress and money in the long run!
One Final Note
The day after I hit my goal for our family emergency fund, our hot water tank blew, and I was out $1,800.
I was absolutely crushed. I had just hit my goal, and now I lost the money!
And then it hit me: That’s what it was there for!
So I paid for our water heater in cash, saved myself the trouble of debt, and set a new goal to replenish that $1,800 over the next 6 months.
Don’t get discouraged if you have to spend some of your emergency fund on actual emergencies before you hit your goal.
That’s what it’s there for!