Emergency Fund: What It Is and Why You Need One
Preparing for unexpected costs is an important part of your financial security, and ultimately your financial freedom. One of the best ways to be prepared is by having an emergency fund.
Let’s explore what an emergency fund is, why it’s important and how you can start and manage one.
What Is an Emergency Fund?
An emergency fund is an amount of money set aside to cover unexpected expenses. These can include medical bills, car repairs or living expenses during a job loss. Think of it as a financial safety net that provides peace of mind, ensuring you’re prepared for unplanned expenses.
Emergency funds are sometimes used interchangeably with “rainy day” funds, but there is a key difference between the two. Rainy day funds are for expected expenses that are not accounted for in your monthly budget, such as light vehicle maintenance and school supplies. In contrast, emergency funds are for truly unexpected emergency costs, such as major home repairs or unforeseen medical expenses.
Why Do I Need an Emergency Fund?
Financial emergencies can happen to anyone at any time. If you’re one of the 37% of Americans that wouldn’t cover a $400 expense with cash or its equivalent, you may jeopardize your financial health as you scramble to find the money.
An emergency fund offers a cushion of funds, safeguarding your financial well-being and providing stability during tough times.
How Do I Start an Emergency Fund?
Opening an emergency fund can be as simple as setting up a savings account with your bank or credit union. The key is to start small and be consistent. Even saving a small amount like a percentage of your paycheck or a portion of a tax refund can kickstart your savings.
Make sure to put your emergency funds in a type of account that will allow you to access your funds quickly and easily, which is important during an emergency. For example, a certificate of deposit (CD) may have early withdrawal penalties.
How Can I Build My Emergency Fund Faster?
Automatic transfers. To accelerate your emergency savings, consider automatic transfers from your checking account to your savings account. If you get paid through direct deposit, you can have a portion of your paycheck sent to your emergency fund.
Adjust your budget. Cut back on non-essential expenses, such as subscriptions. Use any extra money you receive, such as a windfall or tax refund, to boost your fund.
Consider a high-yield savings account. There are some member FDIC bank accounts that are designed to maximize your savings growth. These types of accounts have a higher annual percentage yield (APY) than typical savings accounts. This means you can earn more in interest compared to regular savings accounts. Some high-yield savings accounts have a minimum balance requirement, so you may need to start saving before you open this type of account.
How Much Should I Save in an Emergency Fund?
A common rule of thumb is to save three to six months’ worth of living expenses. However, your specific savings goal should be tailored to your personal finance situation. Try not to get discouraged if saving for months of expenses seems impossible. Building an emergency fund takes time, and every dollar helps.
What Expenses Should I Use My Emergency Fund For?
Your emergency fund should be reserved for essential expenses and true emergencies, such as medical bills, home repairs or living expenses during a job loss. It’s not for discretionary spending or planned expenses.
What Emergency Fund Mistakes to Avoid
Drawing funds for non-emergencies. Resist the temptation to use your emergency funds for non-urgent expenses. In a pinch, it can be used when you need help paying regular bills, but it shouldn’t be relied on — budgeting is a more sustainable fix.
Not adjusting your savings goal. As your financial situation changes, so should your emergency fund goal. A growing family or a new home might require you to increase your savings.
What Experts Say
“I typically recommend keeping between 3 to 6 months’ worth of cash reserves on hand in an easily accessible place — this could be in your checking account (if you can trust yourself not to spend it down), a high-yield savings account, or in a money market mutual fund. In the event of unforeseen home emergency expenses, you will have enough cash available to cover the basics (food, shelter, transportation).”
Aviva Pinto, CDFA, CDS, Managing Director
“Funds in the emergency fund are not meant for vacations, holidays, or other predictable expenses. The purpose of the emergency fund is to avoid the use of credit cards, retirement accounts, and other long-term savings when an emergency arises and instead be able to have the funds available to fund the unexpected situation.
“The emergency fund creates a cushion for yourself and your family that will allow you to fund the unexpected events in your life so that you can keep your focus on your family, health, and things that are important to you.”
Jennifer Aube, M.S., CFP, ChFC, CKA, Vice President, Financial Advisor
Wironen Aube Wealth Management
“An emergency fund is more than just a financial reserve; it’s a manifestation of a healthy money psychology. It represents a commitment to financial security and self-reliance.
“It underscores a proactive, rather than reactive, approach to personal finance. This proactive stance is integral to a positive money psychology, where financial decisions are driven not by panic or pressure, but by thoughtful, well-considered strategies.”
Khwan Hathai, CFP, CFT, Founder, Financial Therapist
Epiphany Financial Therapy
The Bottom Line
Building and maintaining an emergency fund is a crucial aspect of personal finance. It’s not just about having money set aside; it’s about ensuring your financial security and well-being.
Start saving and watch how this financial cushion transforms your sense of security and confidence in handling life’s unexpected challenges.
An emergency fund isn’t a luxury — it’s a necessity for everyone looking to achieve financial peace of mind.
DISCLAIMER: This content is for educational and informational purposes only, and is not intended as financial, investment, or legal advice.
Aviva Pinto, CDFA, CDS
Aviva Pinto has over 30 years of experience in the financial services industry. As an advisor, Aviva works with individuals in transition (sale of business, inheritance, divorce, widowed) to determine the most appropriate course of action for their financial assets. She helps guide them so they feel more confident about their financial future. Aviva is currently on the finance council of Forbes.com. A frequent speaker at family office conferences and events, Aviva has been voted one of the Top 50 Businesswomen on Long Island for multiple years and was named one of Crain’s New York Business 2020 Notable Woman in Finance. She is also actively involved in the industry and her community, serving as Trustee and Chairwoman of the finance committee for Port Washington Library Foundation, Director of the Nassau, Long Island chapter of the National Association of Divorce Professionals, Trustee of Manhasset Bay Yacht Club and Alumni Student Recruiter for the University of Michigan.
Jennifer Aube, M.S., CFP, ChFC, CKA
Jennifer holds the distinguished CFP® designation and strives towards constant professional and personal development. When she is not serving her clients, she spends time with her family and friends, visits her Florida home and clients, enjoys a good book, and gets out to local farmer’s markets.
Khwan Hathai, CFP, CFT
Khwan is a trailblazing Certified Financial Planner and Certified Financial Therapist, who earned her Master of Science in Financial Planning. As she combines her qualifications and extensive professional experience in the wealth management industry in revolutionary ways, she has become renowned for her innovative approach that merges the robust methodologies of money mindset shift, behavioral financial planning, and somatic breathwork healing. As the Founder of Epiphany Financial Therapy, Khwan has established herself as a pioneer in the field of financial therapy. With her diverse background and global vision, Khwan provides a new and unique approach to money management that redefines financial health by integrating the wisdom of body and mind with behavioral economics – a departure from traditional financial advice.