Why Have An Emergency Fund?

By | May 24, 2020

I want to seriously warn you that you should have an emergency fund. The last thing you want to have to do is raid your stock portfolio because you lost your job or need an expensive repair. Note though that so many things could be defined as an emergency. So maybe we should define what an emergency is, how much to have in your emergency fund, and how to get to that amount.

What is an emergency?

An emergency in this case is the most difficult situation you can imagine. And if you have been living paycheck to paycheck, you have been able to get through virtually anything without savings, so basically nothing is this bad. Think of it as like insurance that you will never have to use (unless you do).

Honestly, if you can think of a way through a situation without tapping your emergency fund, don’t tap it.

By the way, if you still carry a balance on a credit card, that would also be something to tackle, more to come on this in the future.

So now we know that an emergency is something so bad and difficult that you would have no possible way to navigate it without using your fund. If you can sell another asset, talk to a creditor, delay a payment, or not buy that new car, it’s not bad enough.

How much should you have in your emergency fund?

As a rule of thumb, you should have enough money to cover three to six months of expenses. Enough to cover your rent or mortgage, car payments, utilities, etc. for three to six months. That is a lot of money, I know. Hang on for how we get to that number.

If you have a stable job in a stable industry, you could probably get away with having only three months of savings. Otherwise you want to shoot for the bigger number. Sometimes even six months may not be enough, but that gives you time to figure out your options in the case of a layoff.

Now your emergency fund should be quickly accessible and safe. No, not cash under your mattress. It should be in the bank in a savings account, or someplace else that is safe and easy to get to quickly. Cash is not safe. Gold is not easily convertible to cash and could lose value. Most investments are not stable. Cash in the bank.

How do you get to three to six months in savings?

I can tell you that you may not get there this month. You may not get there in six months. It may take you several years in fact unless you are really good. So make sure to set your expectations properly

Next, you need to take an axe to your spending. I would set a goal to come up with 10% of your net income in savings. You may not be able to do this right away but it is a goal. Let me put it this way just to be clear: You will spend all that you make, no matter how much you make, unless you make a serious effort to save. In fact, most people can save 10% of their income, it is just that they are unwilling to make the sacrifices it takes to do that. Honestly, once you get started trying to save, it becomes much easier and seems like much less of a sacrifice.

What if you seriously don’t make enough to save 10% no matter what you do? Find some income. Work towards a raise. Get a side job. Pick up cans. Do something to either cut expenses or increase income.

I don’t recommend you invest in stocks or anything else until you protect yourself from needing to raid your investments in a real emergency. Otherwise you will just lose money that you cannot afford to lose.

Leave a Reply