How Much Should You Put In An Emergency Fund?

Many thanks to Austin from Minted Millennial for this guest post! Be sure to check out his blog information down below! If you are interested in guest posting on this blog, click here! 

Always Be Ready For Emergencies!

Emergencies can strike at any time regardless of how careful you are.

Say your company suddenly lays off a bunch of employees, including you. It can sometimes take a long time to start earning paychecks again at a new job. Even if you get a lead quickly after getting laid off, there’s still a period of going through interviews, getting the paperwork processed, potential drug tests, and then actually working for multiple weeks to earn your first paycheck.

In the meantime, you’re going to need funds at the ready to cover necessary living expenses for a period of time. Enter, your emergency fund.

There are several other scenarios where you should tap into your emergency fund, but we’ll get to that later. Without this safety net, you are exposing yourself to potential risks, stress, and harm to your family. So if you don’t have one, start building it today.

We’re going to be covering exactly how much you need in your emergency fund, where you should hold it, when you should use it, and some strategies to help you build up your emergency fund baseline.

How Much Should You Put In Your Emergency Fund?

The answer to “How Much Should You Put In Your Emergency Fund” can vary widely and is generally based on your specific situation. Here are some factors that could impact your emergency fund amount:

• You share an income with your spouse
• Whether or not you have dependents/owe child support
• If you have a chronic medical condition/other medical risks.
• You have monthly loan payments

… And a countless amount of other factors. But the “it depends” answer isn’t what you’re here for, I know.

While I can’t tell how much you specifically need in your emergency fund, I can certainly give some general rules and guidelines. The most basic rule when it comes to emergency fund amounts is to have a baseline of $1,000.

This baseline is the absolute bare minimum when it comes to your safety net. Ideally, you should start off with one month’s living expenses.

Note: Living expenses include rent/mortgage, groceries, monthly bills, debt minimums, transportation, healthcare, and any necessary personal expenses.

Once this has been done, take some time to evaluate your financial situation. If you have any high-interest debt over 10%, such as credit card debt, that needs to be completely eliminated before you move forward.

Understanding your spending priorities can help you save thousands of dollars over time.

Once your high-interest debt is taken care of, attack your emergency fund savings until it gets up to 6 months living expenses. Some people say to save 3 months, others say 8, and some even suggest a full year’s worth of expenses.

Do whatever works best for your situation and your financial goals, but I say 6 months as a general guideline.

Where’s The Best Place To Hold Your Emergency Fund?

There are three main characteristics that generally all emergency fund accounts should have: Easily accessible (liquid), stored in a secure account, and earning interest at a good rate. Here’s why these three characteristics are important for your emergency fund:

• It needs to be easily accessible so if you need emergency money in a pinch, you can get to it within several hours.
• Your account should be secure and withstand volatility. While interest is important, there’s no need to risk this money for a potential loss. What happens when you need these funds during a market dip?
• It needs to be earning interest. For all you know, that money could be sitting in your account for 5 years before an emergency comes along, so it needs to be working for you. Money sitting stagnant over time is losing value.

These three characteristics limit the number of account types that will work for your emergency fund. In addition, it is highly recommended that you hold it in a completely separate account so you’re not tempted to dip into it.

So what are some accounts that you can use?

You Should Hold Your Emergency Fund In:

• Money Market Accounts (easily accessible, good interest rates, secure): MMA’s are similar to savings accounts with some checking account qualities. Many MMA’s will offer a high-interest rate (around 2%) and will allow for check-writing. Some even offer an ATM card for you to access your money easily, making it a strong candidate for holding your emergency fund. The downside for Money Market Accounts is that many of them require a high minimum balance, and could penalize you with fees in various ways.

The ideal MMA has good rates, no monthly fees, and a reasonable minimum balance.

• High-Yield Savings Account (decent accessibility, good interest rates, secure): This is the best alternative to a money market account. Traditional savings accounts offer very low rates (The national average interest rate for savings accounts is 0.09%) but many banks are starting to offer higher interest rates to stay competitive. We are now starting to see savings accounts, particularly from online banks, offering closer to 1.5% and even upwards of 2% interest. The difference between a 0.09% and a 2% interest rate is huge.

This is the recommended course of action if you feel like you might be tempted to dip into your emergency fund; savings accounts are slightly less accessible than a money market account.

You Could Potentially Hold Your Emergency Fund In:

• Roth IRA (accessible, great interest rate, less secure): This one can be argued for sure. But for general guideline purposes, I would recommend staying away from this. Investing your emergency fund in any sort of investment account exposes it to risk – you can actually lose money. In the event of a market dip or crash, your money might not be there for you when you need it most. On the flip side, if you’re familiar with the stock market and invest with a safe strategy, you can earn a higher interest rate than the previously mentioned accounts with minimal risk.

If you choose this route, do plenty of research. In general, your Roth IRA should be exclusively used for retirement savings.

• Certificates of Deposit (CD) (poor accessibility, good interest rate, secure): While CDs are a very secure way to grow your money over a specific period of time, they generally don’t meet the criteria of easily accessible. You will have to pay a fee if you wish to withdraw your money early in the event of an emergency. However, if you utilize the CD Ladder strategy, you can make it work for your emergency fund.

You Should NOT Hold Your Emergency Fund In:

• Taxable Brokerage Accounts (accessible, great interest rate, less secure): As stated above, I would be wary of investment accounts since they are quite volatile. In addition, withdrawing money from a taxable brokerage account exposes you to capital gains tax, hence why it’s called a “Taxable Brokerage Account.” I would steer clear of these when it comes to emergency fund savings.

• Checking Accounts (very accessible, very little to no interest, secure): If anything, checking accounts are a little too accessible; you don’t want to be tempted to spend your emergency funds on anything other than emergencies. The biggest problem? They don’t earn you any interest. Your money will just be sitting there losing value, so avoid holding your emergency funds in a checking account.

Pick one of these accounts based on your needs, and use it exclusively for your emergency fund!

Emergency Fund Tips:

When Should I Tap Into My Emergency Fund?

Here some situations that would warrant emergency fund usage:

• Emergency medical costs that aren’t covered by insurance.
• Expenses after a job loss
• Urgent/Unexpected home or car repairs
• Family emergencies

You should NOT use your emergency fund on:

• Regular medical expenses
• Student loans
• Routine car/home maintenance
• Investing/starting a business
• Holiday gifts, shopping, or vacations (This should be a given)

The bottom line is that your emergency fund should only be used if the situation is urgent, necessary, and unexpected.

How To Build Your Emergency Fund Baseline Quickly!

About 30% of American adults don’t have an emergency fund, and that number is on the rise. Taking the initiative to save money for emergencies is something many people struggle with, so what are some strategies you can use to hit your baseline number?

• Start with small increments: When I started my emergency fund, I began by just setting aside $20-$50 per paycheck. In your head, you might think it doesn’t do you any good to do such a small amount, but it actually does! Putting yourself in the habit of contributing to it is the first step and will put you ahead of the 30% of Americans that don’t have enough in their savings. Baby steps, it’s not going to happen overnight.
• Live by your budget: First of all, you’re going to want to create an effective budget. Within your budget, set a monthly savings goal that’s reasonable for your current situation. Setting a small goal is better than not setting any goal. Take the day before each payday to address your budget and plan out exactly where every dollar is going. Stick to your plan, you’ll hit your baseline in no time!
• Save your tax return: If you’re still working on getting your baseline set, you should be saving your annual tax return to it (or at least a large portion of it).
• Automate your savings: This is probably the biggest game-changer when it comes to saving your money. Elect to automatically move a percentage of your income to your emergency fund upon payday so you don’t ever even have the opportunity to spend it.
• Start a side hustle: Picking up a side hustle can be a great way to give you more capital to work with. This can be anything from starting a blog to getting a second job. With the internet at our disposal, side hustling is easier than ever. Any extra side income you make can go directly towards your emergency fund, debt, or whatever else you want it to.

For more tips on saving money efficiently, here are 5 creative ways to save money.

Secure Your Future

I hope that after reading this, you’re much more comfortable with the idea of building up an emergency fund. You now know everything you need to know about starting one, so there should be nothing holding you back.

You never know when you’re going to need a large sum of money on the spot, so preparing yourself for the worst can bring you both mental and financial peace. Building a sturdy emergency fund is the first step towards prosperity in your life, so what are you waiting for?

What advice would you give to someone that isn’t motivated to start their emergency fund? Send this article to that person to give them a friendly nudge.