The purpose of an emergency fund
Having money saved for an emergency is arguably the most important thing to save for above all others. An emergency provides a cushion of money when unexpected expenses arise, especially when they are larger than usual. A good example of when an emergency fund is useful is if your car breaks down. Depending on the severity, a breakdown could easily cost you hundreds of dollars. If you do not have a cushion of money saved up, you might end up having to take out a loan, or put the expense on a credit card. If you are not able to pay it off during the grace period then the emergency can cost you much more than the original price.
Not the purpose of an emergency fund
It is important to distinguish emergency fund savings from other savings. You should know when something actually constitutes an emergency, and warrants using the emergency fund. Sorry to break it to you, but the newest electronic device is not an emergency. Not all unexpected expenses are emergencies either, life is not fully predictable, but most unexpected expenses should be able to be covered by your regular budget.
How much should I save?
There is a time tested theory in the realm of personal finance of how much one should have saved in case of emergencies. First of all, ANY amount of savings is better than none, so start saving today. Eventually, you want to have 3-6 months of living expenses saved up that is easily accessible in a relatively short amount of time. Whether you choose to have 3 months or 6 months or anywhere in between depends on individual factors such as risk tolerance, job security, amount of monthly expenses, etc. The reason why a fully-funded emergency fund should have so much money is so that it can protect you from the most important emergency of all: Income loss. The goal of your fully-funded emergency fund should be to be able to cover you during a period of income loss such as unemployment.
How do I get started?
You need to make an emergency fund a priority. The easiest way to save for an emergency fund is through automation. You could adjust your direct deposit where a small amount of it goes directly into a savings account dedicated to your emergency fund. You could set up automatic transfers once a month, or every time you get paid. Paying yourself first will largely ensure that you will be successful in building up a sizeable emergency fund.
- Emergency funds provide help when a large unexpected expense occurs.
- Emergency funds can save you from going into debt.
- Not all unexpected expenses are emergencies.
- Start savings today if you haven’t already and pay yourself first!