The Emergency Fund

My first post on setting up a personal budget began with the statement that the majority of Americans cannot afford a $1,000 emergency expense with cash if it came up out of nowhere (as emergencies always do). If you are responsible for providing for yourself and especially for others as well, then one of your first goals in your financial journey should be to save enough money for an emergency fund.

An emergency fund is a pot of money that you do not spend unless absolutely necessary. It is money for covering your essential bills if you lose your job or to pay for a sudden medical emergency. If you have never had any savings whatsoever, securing an emergency fund will give you peace of mind in a way you’ve never experienced before. You’ll have an easier time falling asleep if financial worries keep you up at night. You’ll have something that you know you can depend on in those desperate times. There are many ways to mitigate against the risk of emergencies, which will be discussed later, but their mere existence is a guarantee in any life. It’s a question of when, not if.

How much money does an emergency fund need to have? Like many other questions, it depends. Dave Ramsey’s Baby Steps first recommend saving $1,000 in Step 1 before going on to save 3-6 months’ worth of living expenses in Step 3. I would certainly suggest saving $1,000 at an absolute minimum for anyone seeking financial independence, even if you have no dependents and your expenses are very manageable.

Unfortunately, $1,000 will not cover much in the lives of most people, especially during a period of high inflation. That doesn’t even cover one month’s rent in many cases, not to mention the multitude of other basic living expenses that will come up during that same period. If you want to be on the safe side, I strongly recommend saving one full month’s worth of living expenses if you haven’t already. You’ll save much more than that later on, but this is a good starting point if you’re beginning with $0 in savings.

Back to the Budget

In my earlier post on setting up a personal budget, we looked at the example of Roy and how he allocates the $2,300 he earns every month. You might immediately assume that he automatically needs $2,300 for that initial emergency fund. Although there’s nothing wrong with setting out with that in mind, it is important to recognize that an emergency fund should only be used for the absolute necessities. If it’s a nonessential expense, do not use your emergency fund for it. Wait until you can pay for it with other means. Let’s look at Roy’s budgetary items again.

Roy lives a very modest lifestyle and most of these expenses are essential, such as rent and utilities. However, even in a case such as his, modest cuts can be made. If he faces a situation where he does use his emergency fund, he should also be looking to cut back on the amount he spends on food that month, especially eating out. Any miscellaneous expenses that are not essential should be put off as well.

These are not pleasant decisions to make and deciding how to spend your emergency fund when you do need it can be stressful for many people. But using money that is 100% yours in an emergency will ultimately be less stressful than using the bank’s money instead. If you do end up dipping into your emergency fund, your next goal once things have stabilized is to be rebuild the emergency fund back up to its original amount. You might insist on having a fund that is even larger in value this time. Good. Now, you’ve witnessed firsthand what these situations look like and how important it is to plan in advance for them.

Why It Matters

Many things seem pointless where there is no clear need for it, especially things as challenging as scraping together a few thousand dollars on a budget that already feels extremely tight. Not all of you who do end up saving enough in your own funds will necessarily need it one day, but those of you do make that hard decision may find out later on how much better it made things. The internet is full of testimonies of others who learned to save money when they were able and how it kept them afloat when times were much tougher. In particular, the loss of a job is one such instance where people express feeling much better about making that decision.

But don’t let me be the only one trying to sell this idea to you. Listen to J.T. and Toccarra explain how much of a positive impact it made in their lives.

Acceptable Limits

Remember, your goal at this stage is not to save enough money for any possible situation. It is simply to pull together enough that gives you peace of mind in these early stages of your journey. If you truly have no money in savings at all, I would strongly recommend cutting out any expenses that you can put off until this is done without going into debt for them. In Roy’s case, he is normally only able to save $50 a month. But if he trims his other expenses such as food and subscriptions, he could save closer to $300 per month. At that rate, he could get to that first $1,000 in just over three months. That’s much faster than the year and a half it would take under his normal spending habit.

As you progress further in your savings journey, there will be setbacks and points of discouragement. One good way to handle any setback in life is to allow it to motivate you, rather than swallow you. In the case of saving for the first time, it can be extremely difficult because only so much money can be set aside if you aren’t already used to doing so. Let that feeling motivate you. Is it time for you to seek out more money? If so, start exploring different ways you can earn more than you currently make. It is possible. There are many things about the modern economy that are difficult, but one thing about it that we are lucky to have is the wide availability of various jobs, gigs, side hustles, whatever you want to call them. Once you begin this journey and strive to make progress, you will learn more about yourself and what you’re capable of than you would have if you never started.

That’s all for now. Peace!