You've heard professionals say that you need to have an emergency fund for a rainy day, but do you really? Find out what they are, how they can be used, and decide if you really need one or not... (hint - you really do!)
Are you one of the 69 percenters? This is the percentage of Americans who do not have at least $1,000 in savings (according to a 2016 GOBankingRates survey). According to the same survey, a full one-third of our nation has no savings at all.
We could wear the t-shirt, sport the bumper sticker and join the "We are the 69%" club.
We have had bad credit most of our married life. We've worked hard at trying to pay it off, gather a savings account, and fund needed projects. Then a big emergency seemed to always hit us and make us start at zero (or below zero if we had to put it on credit).
We became serious at getting ourselves out of debt. I sold a business that I had built up, and used that money to fully fund our three month emergency fund, pay off a significant amount of the debt, make some needed repairs to our home (to ensure we didn't incur more debt when those repairs became emergencies), and fund a few pet projects.
We prayerfully considered that getting our emergency fund and pulling ourselves out of debt was going to take a big commitment. So we committed fully. Getting out of out of debt and having our emergency backup was more important than the income that I was generating monthly from my business.
It also means that, for a short time, we'll have less income coming every month. We just recognized that until we had that emergency fund set up to help keep us from going into debt every time the car broke down, a dental emergency happened, a heat pump died in the middle of a Texas summer....we'd never really be able to pull ourselves out of debt.
We realize that we had the ability to jump into the debt challenge, but we sacrificed a lot to give up the business. Not everyone has a business they can sell, but getting out of debt can be something you CAN accomplish, even if it is a slower rate. It can be done. Don't let the big numbers you may be looking at discourage you from making the effort!
What is an Emergency Fund?
Simply put -- an emergency fund is the savings you have to cover emergencies that arise that you cannot cover with your regular budget or savings plan.
Types of emergencies you might have:
- Major home repair after storm damage
- Car breakdown
- Job loss
- Emergency room visit or unplanned medical testing
- Dental emergency
- Run out of propane during a hard winter
Even though you may carry insurance in the above cases, your co-pays, deductibles and "amount you may owe" balances can be problematic if you haven't budgeted for those things. That's what your emergency fund is for.
What Your Emergency Fund is NOT for:
- Eating out with friends when you are out of money
- Going to a concert you didn't budget for
- Buying a new electronic gadget that you haven't saved up for
- Paying off a credit card balance that you ran up
You need to view your emergency fund for what it is - a fund to help you out in times of true emergencies for your family, not as a convenient cash buffer to get you through until next week because you overspent on non-essentials.
Why Do I Need an Emergency Fund?
Because life happens, that's why. Not to be flippant about it, but life happens, and we all are caught short with emergencies. This holds especially true for those working on tighter budgets, or trying to recover from financial mismanagement. Stuff happens and we need a backup plan.
Why am I talking about it on a "pantry" website? Because our financial umbrella extends past just our wallet, but over our entire home. Our finances allow us to be able to buy food, to buy necessary supplies for our family, to build up stock on essential items, and to be able to do stuff. If we don't have our finances in order, it becomes a problem when we're trying to be more purposeful in what we buy, stock and use.
An emergency fund for your 'financial pantry' allows you to have a fall back during financial stress. It allows you to not rely on credit cards to get out of a bind and put yourself further in debt.
Isn't an Emergency Fund Just Like a Savings Account?
Yes, and no.
An emergency fund may be stored in a savings account, but it should not be a part of your everyday savings. You want it in an account separate from everything else, to keep the temptation of dipping into it for frivolous things at bay. You may be saving for a car or a new air conditioning system, but you don't want to mix that with your emergency fund which should be used only in an emergency.
Your air conditioning system breaking down before you've saved enough to replace it might be considered an emergency if you live where I do!
How Much Should My Emergency Fund Be?
There is no set rule about what your emergency fund should be. Gurus like Dave Ramsey will suggest your first goal be to create an account with $1,000 that will cover most emergencies. Then build up that fund to three or six months salary to cover larger emergencies like job loss or extended illness. Suze Orman suggests those are not enough and you need to have a full year's worth of expenses set aside for an emergency.
Your goal, no matter how large or small, needs to be the sole focus on your savings for a little while. You shouldn't be saving for big kid toys if you don't have at least a month or two of savings put away specifically for emergencies.
Two Types of Emergency Funds
- Cover single emergencies
- Cover long-term job loss or sickness
Your goal can be a fund that covers basic emergencies. You can choose for it to be any amount, but a good basic goal is $1,000. That will cover most quick emergencies.
But then what happens when you lose your job? Are you prepared to cover living expenses for a month or two while you find another job? And then what if that job doesn't pay quite as much as you've been making and you find yourself in a deficit each month? Then moving up to a three to six to eight to twelve month fund is your next goal.
How Large Should My Emergency Fund Be?
To create an emergency fund for a month, take each of your necessary expenses and total them. That is your month's emergency fund. Multiply that by how many months you'd like to create your emergency fund for. Make sure you think about
- Phone Bills
- Car upkeep and maintenance
- Fuel purchases
- Debt payments
- House maintenance
This total plus 10% should then be your month's goal for a job loss situation. But you'll need to think beyond your everyday bills you see now - what about health insurance, life insurance, school fees, etc.
It would be helpful to have a plan of attack of how you will manage bills if you did have a job loss that affected your family. Even if you have an emergency fund that should cover you comfortably for three months -- looking at the expenses you can decrease will extend the lifetime of that fund.
Don't feel discouraged:
But don't jump ahead of yourself, and don't feel distraught that you can't do it. If you've never created an emergency fund, set a small goal, get there fast. Set a slightly bigger goal, work hard at getting there. Once you've hit your $1,000 fun, then begin setting longer terms goals of getting out of debt, funding your long-term emergency fund, etc. But first, get those small goals accomplished!! We'll cover ways to do that next post.
Does My Emergency Fund Have to be Cash?
This is a subject that is debated amongst financial advisors everywhere. Having cash in a savings account or under your mattress or wherever you decide to keep your cash versus a credit card with open credit for emergencies.
The practical advice should be having your emergency fund in cash, in an easily accessible account, but not TOO accessible.
I have read advice from financial advisors that say to pay off your credit debt fast. Use that credit card as your emergency backup. But use all of your money to get out of debt. Their reasoning is that you'll be saving more money in the long-term in interest that you're paying on those cards.
The problem is....it's credit. And if you're already in a state where you're having to rely on credit cards to live on, the chances are those interest rates are above 20%. If you keep funding emergencies to your credit, you're going to eventually run out of credit, time to pay, and risk losing it all in the meantime. (source: Nerdwallet). Using credit to fund emergencies keeps you in a spiral of never-ending debt.
Where Should I Store My Emergency Fund?
- Online savings account - online accounts like Ally or Capital360 pay out more for interest than a brick and mortar bank or credit union. You may even be able to make money with cash offers to open an account. Be sure to check for how long it takes you to access your cash, how long you must keep a minimum balance to qualify, but many are easy to open with low initial deposits and make it easy to save, without having instant access. Also, check to make sure the bank is FDIC insured.
- Credit Union / Bank checking, savings or money market - a checking or money market give you access to a debit card for quick access to your money if you need it (and a high enough balance may earn you more interest for your emergency fund). You'll have to be diligent to not use this money as it is more accessible than an online bank, but you have the added benefit of it being insured by the FDIC.
- Certificate of Deposit CD's offer you higher interest than a bank, low risk, but are not readily accessible. You can create a ladder of CD's that mature every three months, so that you have access to a portion of your savings regularly before reinvesting. I don't recommend this if you know your need will be ongoing or in larger amounts, but for some, it is a good option.
- Cash on hand - you may choose to keep a portion of your emergency fund at home. Please be sure to keep it somewhere secure, such as in a fire-proof security box.
How Can I Create an Emergency Fund When I'm Broke?!
When you're in a load of debt, when you don't make enough to pay all of your bills, and when you find yourself eating ramen more often than you'd like because it's cheap, creating an emergency fund seems a ridiculous notion. And it is. Except for this...
You are in a cycle because of bad money choices (yes, some folks get here through no fault of their own). More likely than not, it's bad choices in how you spend your money that got most of you here). So you're going to just have to suck it up, make some good choices, and begin to slowly get yourself out.
I am right there with you. The daunting task of trying to save ANY money when you don't have enough coming in makes you just want to curl up in a ball, get on your Amazon app and buy something frivolous. But don't do it. It never helps. I've tried.
Tips to Build an Emergency Fund When You're Broke
For a little while, forget about the debt. Pay minimums on everything. Set a goal for yourself (even as small as $100 - you can always increase it as you get closer). Get there as fast as you can by doing these things:
- Cut out every extra expense. Drop your cable, cut your phone down to the minimum, stop any subscription services, stop eating out. For a few months, stop all of your extras that are mere entertainment, and put that money into your EF.
- Give up the Stuff - you have stuff you've purchased that you really don't care about any longer, but you didn't want to just donate because you spent good money on it. So sell it. Sell it on Facebook, Craigslist, eBay or LetGo. Have a garage sale. Put that money into your EF.
- Get a side hustle - whether you go for a second job, do babysitting, walk dogs, rent out an extra room in your home on Airbnb, collect cans. Put that money into your EF.
- Don't spend your tax refund - put it into your EF.
- Change your tax withholdings to bring more money home every paycheck (instead of seeing a bigger refund at the end of the year). Put that money into your EF.
- Ask for cash for birthdays and Christmas. Put that money into your EF.
Once you've hit your goal, celebrate!!!!!!! Then decide to increase your goal and go for it, or begin to work on your goal of getting out of debt.
NEXT: Even more tips on how to build your Emergency Fund when you're broke
What Do I Do When I Have to Tap into My Emergency Fund
Sometimes, true emergencies happen, and that emergency fund you've been building is there to help bail you out. Just be sure that your 'emergency' is a true emergency, and not just something that you want pretty badly but haven't saved for.
If you do have to tap into it do it. That's what it is there for. Your next priority is to then rebuild it as fast as you can to have to have it available again. Go back to your plan from above, and work towards rebuilding it. Use these tips to help fund it further. Once you've gotten to your goal amount, then revert to your debt management goals.
What Holds You Back?
This is a truly daunting task, especially if you've been living in debt for a long time. It just doesn't seem reasonable to stop and save money, when you have all these payments to make. And let me tell you, I completely understand. It can be done, though. The same way you'd eat an elephant....small bites!
Share with us your biggest obstacle, and maybe our readers can help you out?
You can also come to our Facebook group, Build a Purposeful Pantry, to continue the conversation with others.