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How Much Do You Need in an Emergency Fund?
If you've been a Cheapskater for a while, you'll know that my view on emergency funds has changed in recent times. I used to recommend starting with $1,000 and building up to three months of all living expenses. I know when Disaster Struck that having three months of living expenses put away would have made being unemployed for 3-1/2 years so much easier.
For a long, long time I was happy with a three month emergency fund. Then life changed, and I thought that six months of all our living expenses would be a better buffer.
A few years ago, we decided that having twelve months of living expenses in our emergency fund would suit us better, so we saved until we built it up to cover a full twelve months.
There are a few reasons for wanting a whole year of living expenses saved as a financial back-up. Firstly, we're getting older. Yes, soon we'll be the oldies! And as you get older, it gets harder and harder to find a job if for whatever reason you need one. The last stats I had at my fingertips, and this was way before the disaster that was 2020, was that if you were over 55, it took on average 72 months, six whole years, to get another full time job - and that wasn't guaranteed to be in your particular area of expertise.
Another reason is that the economy, locally and internationally, is just not stable. Yes, I heard Josh Frydenburg say a couple of weeks ago that our economy is booming and 2020 was nothing but a blip.
The truth is, if you do your homework, and really investigate, then no, it's not. You don't need to be particularly clever to juggle the figures to make them look good, and a smile and a cheery voice with a pretty backdrop can make even the proverbial sow's ear look good.
The other reason is that we like to be responsible for ourselves. We don't want to have to rely on "the Government" to support us if for whatever reason we have a financial emergency.
Now our emergency fund is at the level we are comfortable with, every year we add 10% to it. Our expenses aren't going up by 10 percent a year, but that gives us wriggle room to cover inflation and keep it at a liveable level for us. I would suggest that you do the same once your reach your emergency fund goal.
So how much should you have in your emergency fund? Popular thought is to build to $1,000 and then pay off debt. Sounds good in theory, but there's not many emergencies that cost under $1,000.
While it is good to pay down debt, and yes, I'm saying you need to do that, you also need to build a cash buffer for financial emergencies - your emergency fund. Paying down debt is important; building your emergency fund is more important.
Now before you roll your eyes and think I don't know what I'm talking about, stop and remember: I've been there. I've been broke. I've conquered debt. I do know what I'm talking about.
Then, and only then, can you decide whether you want to tackle your debt the way I did, or find another way that will suit you better.
Here's my reasoning: when you put all your spare cash into a debt payment push you do pay down debt quickly, BUT you have no buffer, no safety net, for when things go wrong. And go wrong they will.
For example if you are putting everything into paying off debt and the fridge blows up, that's not so bad. Sure, you'll need to resort to credit to repair or replace the fridge, but that's only a relatively small amount of money. You can use your credit card or get a loan. You'll have increased your debt load, and put that emergency fund back a couple of years, and you'll be paying interest on the loan, but you'll have your fridge (and it would be so much better if you were already budgeting for a replacement fridge, or at least had some money in an emergency fund).
Think though, about what would happen if you have all your money going towards paying off debt and Disaster Strikes. You have debts, including a mortgage, that you have been paying down quickly. Then you lose your job. Your spouse or partner loses their job. The house is half-torn down so you can renovate. You already have a couple of kids. And then you find out you're expecting a third. And you have no money in the bank, no savings to fall back on, because you've been paying extra on those debts.
You are always wiser to focus on building even a small emergency fund, even if it is just one month's living expenses, because that scenario isn't fictitious, it's real. It happened to us. And it is a horrible place to be.
So how much should be in that Emergency Fund? At least one full year's worth of all your living expenses. All your living expenses. You need to budget for all of them if you don't want to have to drastically change your lifestyle. You'll obviously cover the big things like mortgage, rates, house and contents insurance. You'll remember to allow for food, and car registration and insurance. If you have children you'll probably automatically include things like day care and school fees. Regular pharmacy costs are another expense you'll probably automatically include.
But what about all the other living expenses? Phone. Mobile phone. Internet. Sports fees. Hobbies. Club memberships. Christmas. Birthdays for parties, gifts, cards, wrapping, even travel if you visit family and friends to celebrate. Easter. Mother's Day. Father's Day. Meeting friends for lunch or dinner or coffee. Vet bills. Pet vaccinations. Pet food. Pet grooming. Boarding kennels to look after the pets while you're away on the road trips and weekends away you can enjoy because you built them into your emergency fund. Visits to markets. Craft supplies. Seeds. Fertiliser. Seedlings for the garden. Petrol. Dental. Doctor visits. Health insurance if you have it. Physio or chiro. Clothing. Hairdressing. Manicures. Tyres for the car. Car services.
If you spend money on it, then it needs to be a part of your emergency fund. Just recently Cheapskater Maureen mentioned that she included the cost of a new car in her emergency fund. If that is an expense you normally have in your spending plan, then yes, it should be included in your budget, but I'd put it in a Peace of Mind Account. Buying a new car isn't an emergency, but it is something you need to save up for.
We don't have the cost of a new car built into our EF saving; it is a separate category in our budget, along with saving to replace the fridge, dishwasher, freezer, washing machine, lawn mower, painting and so on.
Make Emergency Fund a budget category. Treat it as an expense, just like the electricity or school fees and start putting something in it, no matter how small an amount, on a regular basis. It's easy to start if you aim for one pay period stashed away in your emergency fund. That means if you are paid weekly, build your Emergency fund to a week of living expenses. If you're paid monthly you build your emergency fund to a month of living expenses.
If you're not sure what living expenses are, they are all the expenses you have to live, including the frivolous expenses and yes, we all have them. If you don't want your lifestyle to change for the worse, you'll save for all your living expenses.
We can talk about saving till the cows come home, but if you don't know how much it costs you to live then you can't know how much you need in your EF. I know! Who'd have thought you'd need to know how much it costs you to live each month or year or whatever to be able to build an emergency fund.
Things like utilities, rates, mortgage payments can all be found easily from the bills. These are regular, set expenses. But you'll need to think about the variables - food, holidays, Christmas, hair cuts, manicures, clothing, hobbies and so on. If you have children then day care, sports, music lessons, tutoring costs all need to be included.
It's getting expensive! But you're going to have a true idea of how much you need in your emergency fund. You may even find some areas that you can trim, or even delete the expense and use that money to speed up the Emergency Fund saving.
In reality, how much you have in your emergency fund will be different to what we have in ours. Why? Well for a start we live different lifestyles. We have different expenses. We don't have school fees or childcare to worry about, but we do have a regular chemist bill that needs to be covered, so our living expenses will be different to yours. We live in different places, drive different cars, have different hobbies.
You get the idea. Your emergency fund and how much you have in it will be tailored to YOU and you alone.
The most important thing you can do is just start saving. Open a separate account. Yes separate. Don't have any cards attached to it so you won't be tempted to spend. If at all possible, once you work out how much you will be saving each pay, have it set up as an automatic transfer so you don't even need to think about it.
And remember: this is for a financial emergency, not a flat tyre or a blown up washing machine. Those expenses should be a part of your regular day-to-day budget, under car maintenance and household appliances, so that they don't become a financial emergency.
There is no right or wrong amount in your Emergency Fund. You are in control of your finances, you get to make the decision. It's a budget category, nothing more, so treat it as such.
And remember: budgets aren't written in cement. They are fluid things, that go up and down all the time, so how much you will want to have in your emergency fund will probably be a fluid thing. As your life changes, so will your need for the emergency fund. If you have small children and a mortgage, you'll probably need a bigger emergency fund because you have more expenses. No children or mortgage, then your emergency fund will be different again.
One last thing: if you never have a major financial disaster and don't need to use it, you have a nice nest egg saved up. When you have one pay period saved, don't stop. Continue to build until you have an emergency fund that you are comfortable with (be it six months, 12 months or longer). Because when Disaster Strikes it can be horrible, but it doesn't need to be a disaster if you have an emergency fund.
For a long, long time I was happy with a three month emergency fund. Then life changed, and I thought that six months of all our living expenses would be a better buffer.
A few years ago, we decided that having twelve months of living expenses in our emergency fund would suit us better, so we saved until we built it up to cover a full twelve months.
There are a few reasons for wanting a whole year of living expenses saved as a financial back-up. Firstly, we're getting older. Yes, soon we'll be the oldies! And as you get older, it gets harder and harder to find a job if for whatever reason you need one. The last stats I had at my fingertips, and this was way before the disaster that was 2020, was that if you were over 55, it took on average 72 months, six whole years, to get another full time job - and that wasn't guaranteed to be in your particular area of expertise.
Another reason is that the economy, locally and internationally, is just not stable. Yes, I heard Josh Frydenburg say a couple of weeks ago that our economy is booming and 2020 was nothing but a blip.
The truth is, if you do your homework, and really investigate, then no, it's not. You don't need to be particularly clever to juggle the figures to make them look good, and a smile and a cheery voice with a pretty backdrop can make even the proverbial sow's ear look good.
The other reason is that we like to be responsible for ourselves. We don't want to have to rely on "the Government" to support us if for whatever reason we have a financial emergency.
Now our emergency fund is at the level we are comfortable with, every year we add 10% to it. Our expenses aren't going up by 10 percent a year, but that gives us wriggle room to cover inflation and keep it at a liveable level for us. I would suggest that you do the same once your reach your emergency fund goal.
So how much should you have in your emergency fund? Popular thought is to build to $1,000 and then pay off debt. Sounds good in theory, but there's not many emergencies that cost under $1,000.
While it is good to pay down debt, and yes, I'm saying you need to do that, you also need to build a cash buffer for financial emergencies - your emergency fund. Paying down debt is important; building your emergency fund is more important.
Now before you roll your eyes and think I don't know what I'm talking about, stop and remember: I've been there. I've been broke. I've conquered debt. I do know what I'm talking about.
Then, and only then, can you decide whether you want to tackle your debt the way I did, or find another way that will suit you better.
Here's my reasoning: when you put all your spare cash into a debt payment push you do pay down debt quickly, BUT you have no buffer, no safety net, for when things go wrong. And go wrong they will.
For example if you are putting everything into paying off debt and the fridge blows up, that's not so bad. Sure, you'll need to resort to credit to repair or replace the fridge, but that's only a relatively small amount of money. You can use your credit card or get a loan. You'll have increased your debt load, and put that emergency fund back a couple of years, and you'll be paying interest on the loan, but you'll have your fridge (and it would be so much better if you were already budgeting for a replacement fridge, or at least had some money in an emergency fund).
Think though, about what would happen if you have all your money going towards paying off debt and Disaster Strikes. You have debts, including a mortgage, that you have been paying down quickly. Then you lose your job. Your spouse or partner loses their job. The house is half-torn down so you can renovate. You already have a couple of kids. And then you find out you're expecting a third. And you have no money in the bank, no savings to fall back on, because you've been paying extra on those debts.
You are always wiser to focus on building even a small emergency fund, even if it is just one month's living expenses, because that scenario isn't fictitious, it's real. It happened to us. And it is a horrible place to be.
So how much should be in that Emergency Fund? At least one full year's worth of all your living expenses. All your living expenses. You need to budget for all of them if you don't want to have to drastically change your lifestyle. You'll obviously cover the big things like mortgage, rates, house and contents insurance. You'll remember to allow for food, and car registration and insurance. If you have children you'll probably automatically include things like day care and school fees. Regular pharmacy costs are another expense you'll probably automatically include.
But what about all the other living expenses? Phone. Mobile phone. Internet. Sports fees. Hobbies. Club memberships. Christmas. Birthdays for parties, gifts, cards, wrapping, even travel if you visit family and friends to celebrate. Easter. Mother's Day. Father's Day. Meeting friends for lunch or dinner or coffee. Vet bills. Pet vaccinations. Pet food. Pet grooming. Boarding kennels to look after the pets while you're away on the road trips and weekends away you can enjoy because you built them into your emergency fund. Visits to markets. Craft supplies. Seeds. Fertiliser. Seedlings for the garden. Petrol. Dental. Doctor visits. Health insurance if you have it. Physio or chiro. Clothing. Hairdressing. Manicures. Tyres for the car. Car services.
If you spend money on it, then it needs to be a part of your emergency fund. Just recently Cheapskater Maureen mentioned that she included the cost of a new car in her emergency fund. If that is an expense you normally have in your spending plan, then yes, it should be included in your budget, but I'd put it in a Peace of Mind Account. Buying a new car isn't an emergency, but it is something you need to save up for.
We don't have the cost of a new car built into our EF saving; it is a separate category in our budget, along with saving to replace the fridge, dishwasher, freezer, washing machine, lawn mower, painting and so on.
Make Emergency Fund a budget category. Treat it as an expense, just like the electricity or school fees and start putting something in it, no matter how small an amount, on a regular basis. It's easy to start if you aim for one pay period stashed away in your emergency fund. That means if you are paid weekly, build your Emergency fund to a week of living expenses. If you're paid monthly you build your emergency fund to a month of living expenses.
If you're not sure what living expenses are, they are all the expenses you have to live, including the frivolous expenses and yes, we all have them. If you don't want your lifestyle to change for the worse, you'll save for all your living expenses.
We can talk about saving till the cows come home, but if you don't know how much it costs you to live then you can't know how much you need in your EF. I know! Who'd have thought you'd need to know how much it costs you to live each month or year or whatever to be able to build an emergency fund.
Things like utilities, rates, mortgage payments can all be found easily from the bills. These are regular, set expenses. But you'll need to think about the variables - food, holidays, Christmas, hair cuts, manicures, clothing, hobbies and so on. If you have children then day care, sports, music lessons, tutoring costs all need to be included.
It's getting expensive! But you're going to have a true idea of how much you need in your emergency fund. You may even find some areas that you can trim, or even delete the expense and use that money to speed up the Emergency Fund saving.
In reality, how much you have in your emergency fund will be different to what we have in ours. Why? Well for a start we live different lifestyles. We have different expenses. We don't have school fees or childcare to worry about, but we do have a regular chemist bill that needs to be covered, so our living expenses will be different to yours. We live in different places, drive different cars, have different hobbies.
You get the idea. Your emergency fund and how much you have in it will be tailored to YOU and you alone.
The most important thing you can do is just start saving. Open a separate account. Yes separate. Don't have any cards attached to it so you won't be tempted to spend. If at all possible, once you work out how much you will be saving each pay, have it set up as an automatic transfer so you don't even need to think about it.
And remember: this is for a financial emergency, not a flat tyre or a blown up washing machine. Those expenses should be a part of your regular day-to-day budget, under car maintenance and household appliances, so that they don't become a financial emergency.
There is no right or wrong amount in your Emergency Fund. You are in control of your finances, you get to make the decision. It's a budget category, nothing more, so treat it as such.
And remember: budgets aren't written in cement. They are fluid things, that go up and down all the time, so how much you will want to have in your emergency fund will probably be a fluid thing. As your life changes, so will your need for the emergency fund. If you have small children and a mortgage, you'll probably need a bigger emergency fund because you have more expenses. No children or mortgage, then your emergency fund will be different again.
One last thing: if you never have a major financial disaster and don't need to use it, you have a nice nest egg saved up. When you have one pay period saved, don't stop. Continue to build until you have an emergency fund that you are comfortable with (be it six months, 12 months or longer). Because when Disaster Strikes it can be horrible, but it doesn't need to be a disaster if you have an emergency fund.
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