How to handle emergency savings
This is part 2 of a 3 part series on emergency funds. See the end of the post for the other parts.
In my last post, I (hopefully) convinced you that you need an emergency fund (click here to read that post if you missed it!). Especially if you’re in debt or have a variable income. So now you know what an emergency fund is, who needs one, and why they’re so important. If you were already on board, read on.
I bet you’ve still got some questions, though - namely how much you should be saving, where to put it, and how to know when to use it (and when to leave it alone!). Next week we’ll get to the final part in this series - how to save it in the first place.
How much should you save?
Start with $1000. A grand will get you out of a lot of scrapes, cover your deductibles for your home and auto insurance - though maybe not your health insurance - and will give you substantial peace of mind.
If you’ve got credit card debt, stop here and go tackle that. Then come back here.
After that, work on building up three to six month’s worth of expenses. This will help you get through longer-term emergencies like a job loss, major medical issues until your disability insurance kicks in or you’re able to heal, things like that.
A related question here is “how much is one month of expenses?” Is it the average of your monthly expenses? Is it the bare-bones list of your bills and necessities? Or is it somewhere in between?
For your 3-6 month fund, start with a “what would it cost to keep us housed, fed, and getting to work if the crap hit the fan?” budget, and add to it later to get full months.
Note: between your first $1000 and your 3-6 month fund, you should work on saving a one-month buffer. This is not an emergency fund and shouldn’t be treated in the same way as what we’re talking about here, but in terms of savings priorities, it’s a big one - total game changer! Now read on more about emergency funds.
Where should I put my emergency savings?
The short answer to this is: somewhere a little hard to reach. The long answer is that you want to keep your emergency fund:
In a checking or savings account (not an investment account)
Somewhere other than your regular bank - online banks like Ally Bank or Alliant Credit Union are good options (note: Alliant is a credit union so requires that you meet certain eligibility requirements, one option is to donate a small amount to a charity for foster kids which is what I did when I joined and put my HSA here).
The idea here is to have it somewhere that’s not invested in something with fluctuating value like the stock market or gold, and relatively easy to get at. You want it to be there when you need it, but not so easy that you use it to buy takeout with. An online checking or savings account (refuse or shred the debit card) is a good option since transferring to your regular bank usually takes about 3 business days.
When do you use it? What “counts” as an emergency?
My rule of thumb here is that if you can say yes to all of the following, then use your emergency fund:
Is this necessary? Can you do without or say no? If something important is broken (like a hot water system, or a car that you use to get to work, or a bone), that counts. A really good sale, on the other hand, is not. Only you can decide on the stuff between.
Is this urgent? Can you wait and save up some money for it over time? Does it have to be done right now?
Is it truly unexpected? Car registrations and Christmas are not emergencies. You should be putting some money aside for those a little bit at a time along the way.
Would you have to go into debt to pay for it? If it’s necessary and urgent, look at your budget. Can you do without something this month or for a few months to afford this? Raid the vacation fund?
Using your emergency fund should be a last resort.
That said, if your situation meets all of the above questions, use it! That’s what it’s there for. Do not go into credit card debt if you’ve got an emergency fund. That’s just silly.
Once you do use it, though - top it right back up! Re-funding this account should be a priority for you (again, especially if you are in credit card debt or have income that changes from month to month).
Until next time, when we’ll be talking about how to save an emergency fund.