An emergency fund is a savings account that can protect you from worst-case scenarios, like losing your job. It can also help you pay for more minor emergencies, like a sick pet, home repairs, a broken-down car, or surprise medical bills.
You never know what could happen, so everyone needs a financial safety net. Having an emergency fund can be that safety net if you ever face difficult times. If you’ve never considered having an emergency fund before, we wanted to answer a few common questions.
How much should be in your emergency fund?
The amount of money you save in your emergency fund ultimately depends on your job security, risk tolerance, age, and other factors, including what you need to feel secure. You should save enough to cover your basic expenses for a few months. But having anything at all in your emergency funds is great, and continuing to save will help you build your fund over time.
Before starting your emergency fund, we recommend setting a clear and intentional savings target. But what should that target be? Let’s take a look.
3-4 months’ worth of expenses
You might need to save just a few months’ worth of expenditures if you
- are relatively healthy
- do not have much debt
- live in an area with a low cost of living
- own a reliable car
- could easily find a job if you lose your current one
- do not have kids or other dependents relying on your income
- have a stable job
- have a partner or family member to rely on for financial assistance
6 months’ worth of expenses
You might need to bump your savings goal to six months’ worth of expenditures if you
- live in an area with a high cost of living
- would have a hard time finding a new job if you lose your current one
- have an unstable job, like a seasonal job or a freelancing gig
- have children or other dependents who rely on you for financial support
- participate in high-risk activities, like rock climbing
- have a medical condition
- lack a financial support system
12 months’ worth of expenses
There are some cases where you might want to save an entire year’s worth of expenditures. For example, if you
- have a high income
- work in a niche industry or have a specialized job that might require relocation or require extra time to replace
- are the sole provider to multiple dependents
- are retired or nearing retirement
Where should I save my emergency fund?
Your emergency fund needs to be in a savings account so that you can easily access the money if you need it. That means you should not choose a certificate of deposit (CD) account or individual retirement account (IRA), which could cause you to incur withdrawal penalties if you withdraw your funds early. If at all possible, try to find a high-yield savings account.
How do I build an emergency fund?
Saving money can be difficult, so let’s look at how you can build your emergency fund in five steps.
1. Set your savings goal
Start by deciding how many months’ worth of expenses you want to save. That number will be based on your circumstances and how comfortable you are with risk.
2. Calculate your expenses for one month
Then, you need to figure out what your expenses are each month. Add up things you would still have to pay during an emergency, like rent or mortgage, groceries, utility bills, etc. Think only about the minimum amount of money you’d need to survive, not your everyday spending habits. That means leaving out shopping for clothes or going out to dinner.
3. Calculate the dollar amount for your savings goal
Take the amount you need each month for expenditures and multiply it by the number of months you want your emergency fund to cover.
4. Make your savings automatic
Now, it’s finally time to start saving. Decide how much money you can afford to save each month and set up automatic deposits into your savings account. You’re more likely to meet your savings goal if you automate the process.
5. Look for new savings opportunities
Sometimes we come into extra money, like tax refunds, gifts, or bonuses. Any time that happens, deposit those amounts into your emergency fund to help you reach your goal sooner.
Read also: Saving Money: 9 Tips to Save More This Year