If you were surprised with a $1,000 expense today, like an unexpected car repair or an emergency tooth extraction for your dog (Sound specific? I’m speaking from experience on that one), where would the money come from?
Let’s take it a step further: What if you had a sudden drop in income or lost your job?
A survey conducted by Bankrate in January 2022 found that only about 40% of Americans would have enough savings to cover the unplanned expense, while most would have to find another way, like charging to a credit card, getting a personal loan, or borrowing from family or friends.
When you have to rely on borrowing to cover unexpected bills, you risk finding yourself in a cycle of going into debt, digging yourself out, and starting over when the next emergency comes your way. This cycle can leave you feeling like there’s no way to get ahead. Add in the rising costs and inflation we’re experiencing in our current market, and you may be wondering how you’ll ever win with money.
The foundation of your financial wellbeing is an emergency fund, which is savings you set aside specifically to pay for large, unexpected expenses. Remember the idiom save something for a rainy day? That’s exactly what you want to do: Protect yourself with a financial buffer. It’s also one of the best ways to get out of debt because it gives you a way not to go further into debt.
How to Build Your Emergency Fund
Estimate your monthly expenses. Include your essentials, like groceries and prescriptions, your rent or mortgage, car payment, utilities (water, electricity, natural gas, etc.), phone and internet, insurance (health, renters/homeowners, and car), and minimum debt payments. Take a little time to look over account statements from the last few months so you can account for monthly fluctuations and determine a good average.
Set a target for your emergency fund. There are several schools of thought regarding how much to save in your emergency fund. To keep things simple, aim for 3 to 6 months of your monthly expenses. Let’s pretend your monthly expenses are around $3,500. This would make your target emergency fund between $10,500 (3 months) and $21,000 (6 months).
At this step, you may feel overwhelmed or believe it’s unrealistic to reach the goal you’ve set for your emergency fund. I’m here to tell you that you CAN, and with a little automation, discipline, and time you will reach your goal.
Open a high-yield savings account, preferably at a different bank than where you have your regular checking and savings accounts. Out of sight, out of mind will help reduce the temptation of dipping into your emergency fund for shiny things that aren’t actually emergencies, like last-minute concert tickets or the sale that’s just too good to pass up at your favorite retailer (pro tip: just because it’s on sale doesn’t mean you need it).
Decide how much you’ll set aside and how frequently. I recommend saving a percentage of your net paycheck (what you receive after taxes and deductions) and saving as frequently as you get paid, whether that’s monthly, twice a month, bi-weekly, weekly, or more often. You may need to start small and increase your savings amount as you go, and that’s okay. Even $35 a month will add up over time. The important thing is that you start now!
Automate your savings. By automating your savings, you’ll naturally prioritize your savings goal and be less likely to spend what you intended to save. You can do this through direct deposit so the money goes directly to your emergency fund from your paycheck (your employer can help you set this up), or by setting up an automatic transfer from your checking account to your emergency fund. (Most banks will allow you to set up automatic transfers to your accounts at other banks, either via external bank transfer or your bill pay service).
Consider cutting out unnecessary expenses and directing financial windfalls to your emergency fund. Pause your Netflix, Scribd, and FabFitFun subscriptions temporarily, and put that money toward your savings goal instead. Receive a surprise bonus at work, a cash gift, or a tax refund? Save some (or all!) of it to your emergency fund while you’re working toward your target. These small sacrifices will help you build momentum (and savings!).
Track your progress, celebrate, and make adjustments. Check in on your emergency fund every few months to see how it’s grown, and go ahead, pat yourself on the back for prioritizing your financial wellbeing! You should be proud as you see your balance grow. As you get more comfortable exercising your savings muscles, consider whether you can increase how much you’re setting aside so you can reach your goal faster.
After you’ve reached your target emergency fund, you can feel confident in stopping your emergency fund savings. You’ve got your rainy day fund, and now’s the time to redirect your money to paying down high interest consumer debt (credit cards), saving for your short-term goals (in a different savings account), and investing for your long-term goals (in an investment account). More on short-term savings goals and investing in future articles!
Finally, remember that your emergency fund is for emergencies. Be honest with yourself about what’s necessary and what can wait, and don’t dip into your emergency fund for anything that is not a true emergency. When an emergency does come, use your emergency fund. That’s what it’s there for! Try not to stress about your balance going down, and pat yourself on the back (again!) for being prepared. The setback will be temporary, and you’ll build your emergency fund back in no time by following the same steps you did to fund it in the first place.
Get going! Begin building your emergency fund today. Your future self will thank you.
Until next Thursday!
I agree with all of this except the part about pausing Netflix! lol ;-)