Emergency Funds

An emergency fund is the money your grandma always said she was saving for a rainy day. Life happens. And sometimes life can be expensive. Car problems are usually the most frequent. But if you own your house or condo, there are also broken water heaters and refrigerators that go out. And so on.

For us freelancers, emergency funds are extremely important. Our income usually various from month to month and some months can be really slim pickings. Of course, on our slow months is when everything will break down. You don’t want these unexpected costs forcing you to turn to credit cards and debt.

Most financial advisers recommend an emergency fund that would cover 3 to 8 months of expenses.

Take a quick look at your budget. How much do you need to cover your bills for a single month? For our example here, let’s say you need $1,500/month. You’d then want to save a minimum of $4,500 in your rainy day emergency fund. We can slowly build this emergency fund while paying down our debt, and then attack it once our debt is gone.

Having this emergency fund money readily available when something terrible happens means you won’t have to whip out a credit card, and add even more stress – financial stress – to an already terrible situation. If you’re in a car accident, or a relative gets ill, or your muffler falls off, you don’t want to be worrying about where the money to get through will be coming from. Instead you should be focused on fixing or dealing with whatever the emergency is.

This money should only be tapped into for emergencies. Christmas isn’t an emergency. A trip to England isn’t an emergency. A new book, or lunch out with a friend, or LeakyCon – not emergencies.

So where should we stash this cash?

My emergency fund is in an online savings account. Safe, boring and easy to ignore until I need it. My emergency fund is fully funded for 6 months worth of expenses. It’s not earning me much sitting in a boring old savings account, but this money isn’t for investing. It’s meant to be liquid and available the moment something happens.

Many people choose to keep their emergency fund in a CD (Certificate of Deposit) with a local bank. You’ll certainly earn a little more on interest than I will, but remember, most CDs have rules about when they can be cashed in, and if you cash them in too early, you may have to pay a small penalty. One way around the cash-in penalty is to ladder your CDs, and we’ll discuss how to do that in a future post.

Finally, you could also keep your Emergency Fund in a money market account. Where you decide to start saving and building up your emergency fund really isn’t important, what’s important is that you start saving and building up your emergency fund.

Keep in mind you don’t need to save your entire emergency fund at once. If you’re focused on paying off debt right now, then set up an automatic deposit of just $100/month. The important thing is that you start. And start with a goal. If you say you need $4,500 in your emergency fund, write that number down, and write down how many months it will take you to hit that number at your current contribution rate.

Goals and milestones are so important when learning and trying something new. You have to be able to track your progress and see that you (and your money) are growing. And you wouldn’t be here reading this if saving wasn’t new to you.

I’ll spend more time in future articles on goals, their importance and which ones you should start setting soon. Until then… have you started contributing to your emergency fund yet? Why not? Get on that before your transmission fails or your boss catches you tweeting from your desk and fires you.

Tagged as: Budgeting, Dave Ramsey, Debt, Emergency Funds