The Emergency Fund: Why You Need One and How to Get Started

Powering Prosperity A savings jar of money labeled RAINY DAY

When you come home from work, the last thing you want to find is a puddle on the kitchen floor next to a smoking refrigerator. After you throw away the spoiled food and make alternate plans for dinner, you have to go shopping. Appliances aren’t cheap. But you don’t have to cry over your figuratively spilled milk if you have an emergency fund to cover this unexpected expense. Learn more about emergency funds, how they can help and how you can build one.

Emergency Fund Defined

An emergency fund is a stash of cash that you can easily access when you need to cover a financial surprise. You may call it a rainy-day fund, a safety net or a nest egg. The point is that you have money on hand to use when you need it most. Instead of stressing out about how you’re going to come up with the money — or which bill to skip — you can solve the problem immediately.

How to Set Up an Emergency Fund

Setting up an emergency fund is as simple as opening a savings account at a bank. In fact, this is an excellent option for most people. You can take out money at an ATM or transfer it to your checking account as needed. You might also have money automatically added to the account when you deposit a paycheck.

Ideally, you should choose a different bank than the one you use for your regular checking, suggests Discover Bank . The less convenient it is to withdraw money, the less likely you are to borrow for something like a more impressive Christmas gift. Look for an account that pays high interest. You won’t fund your retirement with the interest you make, but you may as well earn what you can on the money.

Funding the Fund

It’s difficult to save when you don’t have an end in mind, so start by setting a savings goal. Financial experts typically recommend stashing away between three and six months’ worth of expenses in your emergency fund. However, the exact amount you need in the account varies depending on your financial situation. Suze Orman recommends saving enough money to cover 12 months of expenses for maximum security.

If you’re still paying off credit cards or student loan debt, saving that much money may seem like an impossible dream. That doesn’t mean you should skip the emergency fund. It just means yours may look a little different at first. Aim for a starter fund with $1000.  As you pay down your debts, you can contribute more to your emergency fund until it’s fully funded.

Tips for Saving for Your Emergency Fund

After you set up your emergency fund account, it’s time to start depositing money into it. Set a monthly budget. This gives you a glimpse of how much money you have coming in and where it’s going each month. Then look for ways to cut back on what you’re spending so you can save the extra cash.

If you can’t cut back on your current expenditures, consider bringing in more money. You may want to get a second job and put everything you make there in the emergency fund after taxes. Another option is to sell items you have. A few dollars here and there add up, and you’ll start to see the balance in the account increase.

What Counts as an Emergency?

It’s comforting to have money available to cover emergencies when they strike, but how do you know you’re dealing with a true emergency? Just ask yourself three questions:

  1. Is the situation unexpected?
  2. Is it urgent?
  3. Is it necessary?

The following situations may qualify as emergencies:

  • Car repairs
  • Job loss
  • Home repairs like a leaking roof or broken water pipe
  • Unexpected medical expenses
  • Unplanned travel expenses

Not everything that falls under these categories qualifies as an emergency. For example, having the oil changed in your car is necessary, but it’s not urgent or unexpected. That’s an expense to include in your regular budget. Repairing a cracked radiator, though, is necessary and urgent. You can use money from your emergency fund to pay for this unexpected expense.

When life surprises you, having an emergency fund available does more than provide the money you need in the moment. It also gives you peace of mind and helps you avoid unnecessary stress. You’ll have one less thing to worry about as you swiftly handle the inconvenience.

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