Life happens. One moment you’re coasting nicely along, then your boss tells you that the company is closing its doors – and you’re probably going to have to sue them to get your final pay. Something like this probably happened to the whoever first came up with the idea of emergency savings funds – a stash of cash tucked aside somewhere so you’re not without reserves when and if everything hits the fan.
The idea is that the money is only for emergencies, and for extreme emergencies at that. It’s not savings for a rainy day, but rather a colossal storm. Think of this kind of savings as a component – if not the cornerstone – of your overall financial plan, one that will prevent your plan from becoming derailed.
The reality is that many families don’t have emergency savings funds and they’re at the mercy of life’s nasty surprises. Bankrate reported in 2020 that the number who do is about 28%, almost three in 10. Bankrate reported that about 35% of Americans say they have less emergency savings now than prior to the pandemic.
The Federal Reserve did a comprehensive survey of Americans, proposing that something unforeseen had just happened that was immediately going to cost them $400 out of pocket. Four in 10 adults reported that they would have to charge that $400 to a credit card or borrow it because they didn’t have sufficient savings to cover it. Worse, 12% of respondents said they wouldn’t even be able to do that. And that was before the pandemic.
How Much Do You Need?
Unfortunately, the universal answer as to how much you should save in an emergency fund isn’t a mere $400. Experts almost invariably say that you should set aside three to six months of living expenses, and you might want to consider more under some circumstances – as much as nine months to a year’s worth of savings:
- You’re the family’s sole breadwinner.
- Your income derives from self-employment or you work in an industry that’s particularly vulnerable to the state of the economy.
- You or a family member suffer from a chronic illness.
On the flip side, three months is probably OK if you have multiple breadwinners in your family or you’ve worked at a pretty stable job for some considerable time.
How Much Do You Really Need?
Maybe your monthly expenses run you $3,500. That works out to $10,500 to $21,000 for three to six months’ savings – pretty intimidating even in the best of times. But take a deep breath and think about it. Take a hard look at your budget – and if you don’t have one, make one. Pin down exactly where your money is going every month.
Maybe $1,600 of that total pays your rent or mortgage and utilities. Another $500 goes to your car payment, auto insurance, gasoline and vehicle maintenance. Another $200 goes to health insurance and co-pays, and you need at least $600 a month for groceries and personal expenses. So where’s that other $600 going?
If you’re like most people, you’re probably spending it on your cellphone plan, cable or satellite TV, credit card payments, and an occasional cocktail or meal out. So you don’t actually have to save $10,500 to $21,000 based on a $3,500 budget, because there’s $600 of fat built into that number.
Consider trimming it down. Nobody’s suggesting that you give up your cellphone, but take a look at the plan you’re paying for. Do you really need all those bells and whistles? How often do you actually watch all the television channels you’re paying for? Realistically, you’d want to save about $2,900 a month – $3,500 less $600 – because you probably won’t be too concerned with maintaining a premier cable plan in a worst-case emergency.
Start Small, But Start
Even saving $25 a week will get you there eventually, although it will take quite a while. But the value of a sense of accomplishment can’t be overstated. Discouragement can easily derail you, so maybe set one months’ living expenses as your first goal. It's certainly better than nothing, and you can move on from there.
Attack Credit Card Debt, Too
You’re probably paying significant interest each month if you’re carrying a lot of credit card debt, and that’s money that could be put to better things. Consider dividing your weekly, biweekly or monthly savings commitment into two components: Throw half the money at your credit card balances, and tuck the other half aside. You’ll eventually reach the point where those balances are paid down and you can send the money you would ordinarily have paid in interest to your savings instead.
Read More: Main Reasons People Get in Credit Card Debt
Increase Your Income
Maybe patience isn’t your greatest virtue and you don’t want that three-month-to-one-year savings goal looming ahead of you for years to come. You might consider ramping up your income to hurry your savings along a bit:
- Take on a part time job.
- Sell stuff – maybe items around your household that you haven’t used in six months or a year and are in reasonably good shape. eBay is your friend.
- Launch a side gig. Maybe walk your elderly neighbor’s dog after work rather than hit the local pub. This offers a double benefit – you’re bringing money in rather than spending it.
Read More: Starting the Perfect Side Gig
Where to Keep the Money
Common sense is the rule of thumb here. You don’t want any obstacles when you’re trying to put your hands on this cash in an emergency. Think some kind of easy-access savings or money market account here, but shop around for the best interest rate. There’s no rule that says your money can’t grow for you while it’s sitting there waiting for you to need it.
But don’t get too fancy because you want to avoid early withdrawal or tax penalties if you have to take the money. This means steering clear of certificates of deposit or retirement accounts. And you might want to go with the old out-of-sight-out-of-mind adage to avoid temptation as your balance begins to grow. Consider using a separate bank from the one where you keep your regular accounts.
Read More: What Is a Regular Savings Account?
- Wells Fargo: Saving for an Emergency
- Dave Ramsey: A Quick Guide to Your Emergency Fund
- Vanguard: What’s the Right Emergency Fund Amount?
- Vanguard: Where to Put Your Emergency Fund?
- Bankrate: How to Start (and Build) an Emergency Fund
- Advantage: Emergency Savings Fund
- Federal Reserve System: Report on the Economic Wellbeing of U.S. Households in 2018
Beverly Bird has been writing professionally for over 30 years. She is also a paralegal, specializing in areas of personal finance, bankruptcy and estate law. She writes as the tax expert for The Balance.