Emergency funds: peace for an uncertain future | Few Minute Finance

It’s best to have three to six months of savings set aside for emergencies only.

Luke Miller, "Few Minute Finance"

If your paychecks suddenly stopped, how long could you survive financially before you couldn’t pay your bills and purchase basic essentials? For most Americans, the answer is not nearly long enough. Many people know they need an emergency or “rainy day” fund. Yet, for some reason, many are reluctant to prioritize it, and it shows. Coronavirus has simply put a spotlight on this fact.

Ironically, I remember reading a MarketWatch article back in January of 2019 titled “Government shutdown exposes a harsh truth: Most Americans are unprepared for the next recession”. Our country had just weathered the longest government shutdown in history, and many people with government paychecks had reached full-blown crisis mode after several weeks without income. Unfortunately, even one year later, so many were still unprepared for the COVID landscape.

Several columns ago, we established 69 percent of Americans have less than $1,000 in savings, according to an annual survey by GOBankingRates in 2019. Worse, almost half of those polled (45 percent), said they have no savings at all. The number one reason these respondents were unable to save, they claimed, is due to living paycheck to paycheck. If you break that cycle by using the tools we have discussed previously: becoming aware, devoting some time to building a budget, then sticking to it – suddenly there are now resources for an emergency fund. Take that leftover money in the budget, and start building one!

Now, let’s be fair, it’s not easy storing up 3-6 months of income that is by nature designed not to be touched, especially when it means denying yourself purchases of things or experiences to accomplish it. However, I’ve found the trick is imagining how it will feel to live life once it’s funded, or what it will be like to cover an emergency without going into debt or having to accept a massive disruption to life.

Dave Ramsey likes to say emergency funds turn would-be crises into simple inconveniences. The peace and confidence that comes from having a hedge for future unexpected problems and expenses cannot be overstated.

And over the years, my family and I have experienced plenty of the unexpected. I recall exiting the freeway in Denver several years ago in my old S10 pickup — I pressed the clutch in to shift, and it went straight to the floor. A few summers ago, our freezer quit in the middle of July, right in the middle of multiple work trips (isn’t that always how it goes?). Our main sewer line clogged the night after Christmas two years ago, damaging our bathroom’s wood floor and triggering a remodel project (thank you Raybell Plumbing for the quick response time and invaluable help that night!). I’ve personally experienced the sigh of relief that comes from knowing you can cover sudden expenses like these because you sacrificed some short-term enjoyment to help secure long-term protection.

Having emergency savings changes you; it removes the stress of “what if”. Instead of burying our heads in the sand, hopelessly expecting life will go according to plan without a hitch, it allows us to do things with confidence we may have been unable to do before. As an airline pilot, I work in a volatile industry that mirrors the economy in its performance. Many airlines are in a turmoil likely never seen before in history, yet I can sleep easy at night knowing my family can operate for a number of months without a paycheck. An emergency fund gives you time to think and keep the lights on, food on the table, and gas in the car, so you can then “pivot” quickly to the next step and determine an alternate source of income if need be.

Actions you can take today, right now: In line with Ramsey’s theory, I recommend beginning with no more than a $1,000 starter emergency fund if you are still working toward getting out of debt. When you’re debt free (except your mortgage), channel your energies toward fully funding your emergency fund with 3-6 months of actual living expenses. The idea is to be able to survive for 3-6 months with no income except your emergency cash, so make sure you have enough to cover all expenditures and then some. Emergency funds can also cover one-time large, emergency expenses and be replenished thereafter.

Where should you keep it? For starters, not in an investment account. I am a huge fan of investing, and it is critical for retirement and long-term goals, but your emergency fund cannot afford to be subjected to the short-term ups and downs of the market. I recommend a no-fee, high-yield savings account that’s easily accessible, quickly. Online providers such as Ally Bank or Capital One 360 are a great option. Because many of these banks don’t have brick-and-mortar branch locations and consequently have fewer costs, they often pay a much higher interest rate than the national average. The main goal is being prepared for an emergency; interest rates paid on savings accounts will fluctuate, but you might as well make as much return as possible on your savings.

I personally recommend separating your emergency fund from all other savings, perhaps even in its own separate account (they are so easy to create these days). Once it’s funded, extra monthly income in your budget can be put toward your financial goals, including perhaps other short-term savings goals separate from your emergency account. Remember, your emergency fund is for true emergencies. Think job loss or a furnace that breaks during cold weather. It’s not for birthday presents, one-time only Black Friday deals, or financing a new car!

Regarding how much, only you can determine what’s most appropriate. Best financial practices dictate having 3-6 months of actual expenses on hand in cash, and I would consider variables such as age and career volatility when deciding exactly how many months’ worth of cash to keep in your emergency fund.

We even made changes to our emergency fund this year: the coronavirus and unprecedented airline industry instability led us to prioritize additional savings to be even better prepared for any life storms that might strike.

Coronavirus seems to be the ultimate test of our lifetimes. Yes, even individuals and businesses that had emergency cash have been stretched, and all savings runs out eventually without an alternate plan. But I guarantee you: the folks who were hit hard with all 2020 had to offer but could still eat, pay their bills, and pay their mortgages or rent without going into debt, deferring payments, or defaulting are glad they prioritized building an emergency fund.

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