What is an emergency fund?

Whether you are married or single, you must have an emergency fund. If you are single, an emergency fund helps you bail out in tough times.  Emergency funds can also come handy when your salary is delayed and you must meet your investment commitments.

A married woman needs an emergency fund to deal with contingencies like job loss, divorce etc. Emergencies, by their nature, are unpredictable. When they happen, they can derail your financial stability. A sudden illness or accident, unexpected job loss, or even a surprise home or car repair can devastate your family’s day-to-day cash flow if you aren’t prepared.

An emergency fund is a separate savings or bank account used to cover or offset the expense of an unforeseen situation. It shouldn’t be considered a nest egg or calculated as part of a long-term savings plan for college tuition, a new car, or a vacation. Instead, this fund serves as a safety net, only to be tapped when financial crises occur.

The purpose of an emergency fund is to protect your daily finances from ruin due to unexpected expenses.

How much should you save?

While the size of your emergency fund will vary depending on your lifestyle, monthly costs, income, and dependents, the rule of thumb is to put away at least three to six months’ worth of expenses. This amount can seem daunting at first, but the idea is to put a small amount away each week or two to build up to that goal. Yes, it’s ideal to have several months of living expenses saved, but any amount is better than nothing.

You may also want to consider adjusting the amount based on your bill obligations, family needs, job stability, or other factors.

Where should you put the money?

An emergency fund must be liquid so you can access it in a moment’s notice. You should still, however, choose an account that pays interest — it might be a long time before you access the money, so make sure your money is making money until you need it.

Emergency savings are best placed in an interest-earning bank account, such as a money market or interest-earning savings account that can be accessed easily perhaps without admin cost, taxes or penalties.

The concern with placing your emergency savings in mutual funds, stocks or other assets is that they may lose value if the funds need to be accessed quickly.

When should you use this money?

The goal is to tap your emergency savings only for expenses directly related to an emergency condition. New car or clothes is not an emergency. Most true financial emergencies fall into one of these categories:

  • Automotive
  • Medical (no decent health & medical insurance available)
  • Unemployment
  • Home repairs
  • Family emergencies

If you can’t fit those expenses into your budget, you’ll have to reserve part of your emergency money for them. By setting a specific amount that should be in that account, you will know how much to build up to; when you draw from the emergency savings, you’ll then know how much to contribute and to replenish the account. And when you do have to take money from this fund, it’s important to immediately start rebuilding it.

If you start saving now, the money you save today can go a long way towards meeting your needs when the next emergency occurs.