The Importance Of an Emergency Fund

Lidia Staron, author at OpenLoans
Lidia Staron   OpenLoans Marketing Manager
Personal Finance
I enjoy navigating people through important financial decisions.

Unexpected expenses such as a medical, car, or home repair can happen to anyone. People need to be ready and know the importance of having emergency money.

Prepare a rainy day fund to be prepared for a financial emergency.

If you’re living paycheck-to-paycheck, setting aside an emergency fund may seem incomprehensible. You’re already struggling to make ends meet. Creating an emergency fund may only add to your financial burden. If that’s the case, you’re not alone as a majority of Americans have little to no savings. Does that mean you should go on as before? Financial experts have a lot of good reasons for placing importance on emergency funds.

What is an Emergency Fund?

An emergency fund or emergency cash is a pool of money that you have set aside to cover any unexpected events such as a medical expense, car or home repair, or job loss. These events can be quite costly. The presence of emergency money can mean the difference between being "tight" and destitute. Take note that this type of savings should be easily accessible.

How much should your emergency fund be?

Financial experts agree that your emergency fund should contain about three to six months worth of salary. It should enable you to get by for a few months should you lose your job. This amount should include paying for all your living expenses plus any loans you might have at the time such as your mortgage.

 

Reasons For Having an Emergency Fund

1. Helps you stay out of debt

You may already be in debt, but that doesn't mean that you should get yourself some more. Having an emergency fund will ensure that you can cover expenses that are not included in your budget such as a car repair bill or paying for a sudden leak in your roof. You won't need to add to your credit card debt because you already have cash on hand. This will also make it easier for you to pay off your debt because any extra cash you have will go toward paying it off since you already have some extra cushion for unexpected costs.

2. You only have one source of income

If you have only one source income, losing it can result in a disaster. If you find yourself suddenly unemployed or unable to work due to an illness, you're going to have to be able to feed yourself and your family (if you have one) plus still pay off bills and such while looking for a new source of income.

3.  You are a freelancer

Whether you are self-employed or an independent contractor, you probably aren’t receiving any benefits. You also won’t be able to receive unemployment benefits. In addition, your income probably fluctuates since the amount of work/projects you have will differ from time to time. You’ll need an emergency fund for times when business is slow as well as for medical bills since you won’t have certain benefits that employees generally enjoy.

4.  You own your own home

As a homeowner, all maintenance costs will fall on your shoulders. While you should have a fund that will pay for remodeling the house and other house repairs, there may be times when you need more money to cover home repairs like an unexpected problem with your plumbing, furnace, or air conditioning. Having an emergency fund will help. Taking out online personal loans for emergencies can also help, especially since home repairs tend to be quite expensive. But with an emergency fund, you won’t have to get a huge loan. You can opt for a more manageable one.

5. Helps curb your spending

Spending money is easy. Just ask anyone. Now, saving money: that's a whole other ballgame. The best way to prevent yourself from spending on a whim is to put it away somewhere out of sight; e.g., a separate account that does not have a debit card. You'll be able to track your money but not swipe it away on some impulsive purchases.

6. Keeps your stress levels down

Any unexpected event in life that costs money and risks your financial well-being can be extremely stressful. If you don't have an emergency fund, you can find yourself desperately hoping that you won't find yourself running into a crisis. With an emergency fund, you'll have a safety net and peace of mind.

How to Start an Emergency Fund

Since you already know the importance of having an emergency fund, the next logical step to take is to get started. The question is, where do you start? Well, let's take it a step at a time.

Step 1. Determine your living expenses

The best way to keep your finances in order is to have a budget. The only way to do that is to list down all your monthly expenses including food, rent (if you have one), car payments, utilities, mortgage, credit card bill, and other monthly bills. Once you have a monthly budget, multiply that amount by six to get the total amount of money you need to live for six whole months. That's going to be your emergency fund goal. If it's too large an amount for you, you can start off small. The most important thing is that you start.

Step 2. Slice off the fat

With a monthly budget in hand, you can easily see which expenses you can do without like your daily Starbucks fix or monthly cable bill. You can cut out your weekend takeouts, brown bag your lunch, and rent movies instead of watching them in theaters.

Step 3. Sign up for automatic deduction

We've already mentioned that you need to create a separate account for your emergency fund. Well, to make saving money even easier, you can arrange to have a certain amount automatically withdrawn from your payroll account into your savings one. Having it done this way makes it even easier to avoid spending the money. Out of sight, out of mind, right? 

Step 4. Don’t touch it unless it’s a true emergency

Unless you have a huge medical bill waiting to be paid, no food in the house, you just lost your job, or something equally dire, you should never touch your emergency fund. It’s not a source for some quick cash or for funding an impulse buy. In line with this, you need to make sure that the funds are easy to access in case of an emergency. At the same time, it shouldn’t be so accessible that you’ll be dipping into it before you know it. Regular savings account without a debit card may do the trick.

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