Emergency fund: the psychological impact of feeling safe
Updated: Mar 3
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What is an Emergency Fund?
You won't believe the power of having an emergency fund. An emergency fund or emergency savings one of the basic tenets of any healthy personal finance situation. Typically, this is a part of your savings account or a separate savings account where you store money in case of an unexpected expense. If you just read that and are thinking "EMERGENCY FUND, heck I can't even pay for dinner tomorrow" then you are not alone. Starting and building emergency savings is one of the hardest parts of a personal financial plan.
If you have an emergency savings fund and have experienced large medical expenses, home appliance repairs, car troubles, unemployment, or some other unforeseen expense, then you know just how handy something like this can be. For those that have not come across such an event, thank goodness for that. Being prepared financially for such an event can greatly reduce the stress by eliminating your concern about money during it.
An emergency fund is a stash of cash that you set aside for unexpected expenses or emergencies. This money is meant to cover your basic needs, such as rent, utilities, food, and medical bills, in case of an unexpected event that disrupts your income.
Why is an Emergency Fund Important?
Having an emergency fund provides you with a safety net in case of financial emergencies. Without one, you may have to resort to high-interest debt or dip into your retirement savings to cover unexpected expenses, which can significantly impact your long-term financial goals.
How Much Should You Have in Your Emergency Fund?
Financial experts recommend having at least three to six months' worth of living expenses saved up in your emergency fund. This may seem like a lot, but it's essential to be prepared for the worst-case scenario. The exact amount you need will depend on your lifestyle, expenses, and income.
How to Build Your Emergency Fund
Building an emergency fund takes time and discipline, but it's worth it in the end. Here are some tips to get started:
Set a Goal: Determine how much money you need to save to reach your emergency fund goal.
Start Small: Saving even a small amount each month can add up over time.
Cut Back on Expenses: Review your monthly expenses and find ways to cut back on non-essential spending.
Increase Your Income: Consider taking on a side hustle or finding ways to increase your income to reach your savings goals faster.
Automate Your Savings: Set up automatic transfers to your emergency fund each month to make saving easier and more consistent.
What to Do If You Need Emergency Financial Help Now
If you're facing an unexpected financial emergency and don't have enough saved up in your emergency fund, there are options available. Here are some steps you can take:
Consider a Personal Loan: Personal loans can provide you with the funds you need to cover unexpected expenses, but they typically come with high-interest rates.
Use Credit Cards Wisely: If you have a credit card with a low-interest rate, consider using it to cover emergency expenses.
Seek Financial Assistance: Non-profit organizations, religious organizations, and government agencies may offer financial assistance to those in need.
What is an Emergency Fund used for?
An emergency savings fund can be used for basically any expense you weren't planning on. In addition to these unforeseen expenses, it is also used for peace of mind. Some of the life experiences that can lead to you having to dip into your emergency savings can be very hard to deal with. If you don't have to worry (too much) about money during one of these events because you have savings in place then you can focus on truly solving the issue and not how you are going to get money to solve the issue.
Here are a few examples:
Loss of job
Unexpected medical bills
How much is enough in my Emergency Fund?
Calculating the "right" amount of money to have in your emergency fund is actually pretty easy. Most personal finance professionals suggest three to six months of expenses. So, add up your rent, food, car payment, insurance, cell phone, internet, and so on. Then take that number times six and you have the amount you need to live for about six months.
What most get wrong is addressing the safety someone might feel if they have more money. I've talked to plenty of people that prefer nine to twelve months of cash saved just in case of an emergency. While there is no right answer to this question there is a wrong answer, none. If you have the ability to save money for an emergency then you should, plain and simple. There are plenty of people out there who do not have the means to save even a penny for an emergency and while that is a sad state in America it is a fact and that's okay.
If you want to download the calculator below it'll help you determine the right amount based on the standard three to six months expenses theory. You can certainly make changes after you download your own copy.
Take some time to think through whether or not you want to have an emergency fund. Not everyone wants or needs to have money set aside for a rainy day.
If you are trying to determine how much you can set aside for an emergency fund, click here, and read about how to get a budget started. There is another calculator in that article and steps to help you determine what you could set aside.
Good luck with all your budgeting and saving!