Planning for an emergency may sound like a paradox. After all, something is an emergency because you haven’t planned for it.
There are things you can do to help your future self when thrust into an unpredictable situation. Whether you suddenly lose your job, or a family member falls ill and needs hospitalization, it will take a financial toll. Prevent that stress down the road by starting an emergency fund now.
Emergency fund basics
An emergency fund is for unexpected expenses. While your annual property tax bill or children’s school fees should be part of your regular budget, paying for repairs after a car accident or travel expenses to a funeral is possible with an emergency fund.
“An emergency fund allows you to respond immediately to financial emergencies, which allows you to handle the situation without having to deal with additional stresses like struggling to make ends meet or spiraling into a cycle of debt,” according to CapEd Credit Union. “A delayed insurance reimbursement is as much of an emergency expense as a meteorite landing on your car. The important part is being prepared for those expenses, no matter how mundane or how extreme they turn out to be.”
Create an emergency fund by adding a line item to your budget. Still save money for expected expenses — home improvement projects, animal care, a new dishwasher and so on — in addition to setting aside money as you plan for the unplanned.
How much to save
An emergency fund should pay for about six months of expenses. You may be on a tight budget, so that much money sounds laughable. Instead of focusing on the large number, choose an affordable amount you can routinely contribute.
“You can build up to it by stashing away smaller amounts on a regular basis, like every week or every paycheck,” according to Vanguard investment company. “If you keep it up, over time you'll eventually meet your goal. The important thing is that you've started saving something.”
For example, if you start small with $20 a week, you’ll have more than $1,000 in a year. During weeks in which you can afford a bit more, do so. If you can permanently increase your contribution to, say, $50 a week, you’ll have $2,600 in a year.
To calculate your emergency fund goal amount, write down your monthly budget. Include bills you pay every month, remembering to count those automatically deducted from your paycheck or bank account. Some common expenses are mortgage or rent, transportation (car payment, insurance, gas, bus pass), health insurance, food and loan payments. Multiply the final number by six months, and you have your goal.
When you save for a while and reach that golden number, you may choose to continue making small payments to yourself. That way, if an emergency hits, you're already on your way to rebuilding the fund when you return to a routine.
Where to keep the money
A savings account offers access to your money without attaching it to a debit card that tempts you to spend on non-emergency expenses.
Even better, a savings account linked to your checking account lets you transfer money regularly to your emergency fund. When an emergency occurs, you can quickly transfer the money you need back to your checking account. Savings accounts also offer better interest rates than checking accounts.
“A savings account is one of the simplest types of bank accounts available to consumers, letting you store cash securely and earn interest on your money,” according to nerdwallet.com. “While you’re keeping your money from burning a hole in your wallet, it’s earning interest in the savings account.”
With only a $5 deposit, you can start your emergency fund in a free savings account at local credit union CapEd. The account offers a competitive interest rate, so your money is constantly growing, without requiring a minimum balance or a monthly fee.