How to Build a Reliable Emergency Fund

Lost in all of the talk about investing, earning more money, and trimming fat from your budget is the need to prepare emergencies.

Emergencies can come in all sizes. Loss of job, medical injury, travel to see a loved one. Different people have different emergencies.

What are the top 3 emergencies you need to plan for?

Make a list.

If one of your 3 emergencies happened tomorrow, would you be prepared with the savings you have now?

I wouldn’t be. At least not right now. And if you’re in that spot too, don’t feel bad. 26% of all Americans don’t have emergency savings.

But that’s why building up my emergency fund is one of my top goals. And it should be your fist priority too if you don’t have enough of a cushion built up.

Keep in mind too, that beyond just saving money, there are quite a few things that will help you be prepared for anything that comes your way.

First thing’s first though.

Add up all of your monthly expenses

The general rule of thumb is that you need to have 3 – 6 months of expenses on hand in order to be sufficiently prepared.

However, take that as a starting point because everyone’s situation is different.

You may need 3, or you may need much longer if you have a lot of variables in your life.

But let’s start with the first step.

First, simply to determine what you NEED to spend on a monthly basis. This is the first step of creating a budget for yourself, so if you’ve already done that you’re a step ahead.

When adding up your expenses, there are a couple ways that I’ve found to be helpful.

You could:

  • Buy a calendar whiteboard. Schedule out and plan for every bill and expense for the month.
  • Use a tool like Mint.com to link to your bank accounts. It will automatically categorize most of your expenses, although I have found it is inaccurate in some areas or you need to manually categorize a few.
  • Create an Excel or Google Sheets file to summarize every expense category you have. This way, you can dynamically update your expenses as they adjust over time.

When you calculate your expenses, think about what you really would need if you had to live off your emergency fund.

Your mortgage or rent. Car payment. Insurance. Groceries. Phone.

Do you need to account for your coffee budget? Your usual level of entertainment expenses? I would suggest that if you absolutely have to include those, you at least lower your typical amount.

Don’t shortchange your emergency fund though just because it helps you reach your goal faster. That won’t help anything when you actually have to live off of or use your fund and you don’t have enough because you underestimated.

Decide how many month’s worth of expenses in your emergency fund

Start by considering options in the 3 to 6 months range.

Why the range? Some of it depends on what emergencies may come up.

  • Is anyone you are responsible for or susceptible to a sudden health emergency?
  • If you lost your job, how soon do you think you would be able to find another one?
  • Is there another source of income you have available if you lost your main job?
  • Do you have an older home that needs repairs often?
  • How long has it been since you’ve replaced major appliances in your home?
  • Do you have an older car that is going to need repairs sooner rather than later?

Those are just some of the questions that influence how many months of expenses you should save.

In my situation, I’ve determined that 4 months is an appropriate number for me because my wife works and it would be relatively easy for me to earn another job if I was laid off.

However that may not be the same for you, so I encourage you to step outside of the 3-6 month guideline if you need to and plan to save what fits your situation.

While I advocate running on the safe side here, I would also encourage you not to put more than you need to in your fund. If you do so, you’re tying up valuable money that you can use for other investments – investments that will gain a much better return than a savings account.

Now plan. What is a realistic amount of save each month?

You already made your budget of monthly expenses. Now put it to use again and compare that to your monthly income. This will be a little easier if you receive a salary or you’ll have to estimate a bit if you’re hourly.

Now plan. Do you have money left each month? Fantastic. How much are you able to put into your emergency fund?

Now keep in mind, there are obviously expenses that come up (car registration, school costs, etc.) that aren’t 12 months of out the year. That’s what you should never stop planning. Each month, figure out where you stand and adjust your projection.

Where should you keep your emergency fund?

Simple answer? An account you can access quickly, without penalty. Something that is FDIC insured. There isn’t any reason to get cute.

Nowadays, because of the terrible interest rate savings accounts get, it may be tempting to try accounts that have a higher interest rate. But I, and most other people, would not recommend going too far out there when it comes to emergency savings.

Regular savings accounts, typically with the same bank you have your checking account with, are the most common account people have their emergency savings in.

Why?

It’s simple and accessing your money is almost instantaneous. You can go to a bank teller if you want. The one downside is the incredibly low interest rate.

Online savings accounts are typically cited as a good alternative to get slightly higher interest rates because these banks don’t have the overhead physical banks do. The downside here is that you can’t physically go into a bank if need be and sometimes it may take a few days to access your money. If your savings is at the same bank as your checking, transfers are typically instantaneous which gives you much faster access to your money.

Money market accounts could also be a good alternative if you’re able to maintain a higher minimum balance because they are easy-to-access and also pay a much better interest rate relative to regular savings accounts. Most rates tend to be closer to 1% in a money market account versus a regular savings account which is going to be under .1%.

Reassess each month

Expenses change each month. Needs change each month. As I mentioned above, some things aren’t reoccurring every month like school expenses for children,

Not only will the amount you put into an emergency fund likely have to vary slightly each month, but if the expenses your committed to on a monthly basis increase (or decrease!), you should adjust your estimate accordingly.

Other ways to prepare besides putting money in an emergency fund

Money isn’t the only way to be prepared for an emergency. Planning and preparing ahead of time can not only make a difference in how much and long an emergency affects you, but it can also influence how much money it costs you. Other things to do to prepare for an emergency include:

  • Understand your health insurance benefits. What nearby hospitals or emergency rooms take your insurance? Are there certain things that are or are not covered?
  • Keep your resume and LinkedIn profile up-to-date. If you find yourself out of a job suddenly, don’t let precious time go by having to tweak and adjust your qualifications. Not only will an up-to-date resume and LinkedIn speed up your search process, but it can also help networking even while you have a job. Build your network, attend industry conferences and meet new contacts. All will help if you suddenly lose your job.
  • Maintain your home. Don’t ignore little repairs, particularly with major aspects of the house. It may cost a little more money here and there, but it certainly beats having much larger repairs more often.
  • Understand what type of insurance you need for yourself (and your family if you have one). Are other people depending on you and your income? Strongly consider life insurance. What amount of car insurance do you need? You may not need the same amount of insurance on an older car that’s paid off versus a new car.

Emergencies suck, but they happen. The best thing you can do is to plan for them. If they don’t happen then you can be thankful. If they do, you will be prepared .

The more you prepare and plan, the easier time you will have adjusting to an emergency.

Questions, comments, feedback? What methods have you found to be most effective for building your emergency fund? Let me know in the comments!

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