So you have a savings account, now what? How much money do you need to put in there? Financial experts talk about having an emergency fund, but what does that really mean?
An emergency fund is not your savings for a car, house, or other large purchases. Savings for a downpayment on a home should be in addition to your emergency fund. The emergency fund is there for a rainy day (car breaking down, expected medical expenses, etc.) and not for a weekend trip to Las Vegas.
During a disaster or a job loss, your emergency fund will allow you to keep living your life and more importantly paying your bills. So how much do you really need? The bare minimum should be six months of expenses. In other words, what does it take to keep a roof over your head for six months? Say your mortgage is $1,500 a month, plus $300 for utilities, $400 for groceries, $100 for the phone, $89 for life insurance, $400 for health insurance. You’ll need $16,734 in your emergency fund to live off of for six months. This does not include going out to dinner or to the movies or on that family cruise to Mexico.
Though in reality, most people don’t cut their expenses back when faces with finical disaster. Err on the side of caution and save more than you think you’ll need. It is better to be safe than sorry. What are your household expenses? Not just the mortgage and groceries. How much do you eat out? How many movies do you see a month? A weekly date night of dinner and a movie would be around $50, that is $200 a month.
Take an honest look at your spending. It is easy to say I’ll cut out this or that, but it is harder than you think. How much are your really spending each month, add that up and times it by six to eight months. $2,789 for the mortgage, etc., plus $200 for weekly dates, $100 for ballet lessons, $100 for soccer practice. $25,512 will allow you to live with your current lifestyle for eight months. This is how much money you really need in your emergency fund.
On average it takes one to two years to find a new job after a job loss. The bare minimum of six months of essentials won’t last long. Plan to save eight months of your real expenses you will be much better prepared. Then if you cut back to the essentials your emergency fund will last much longer.
Are you spending more than you are making? If you have massive amounts of debt your emergency fund will quickly be eaten up. Look at your real expenses and compare them to your monthly income. Does it add up? Ideally, you should have some money left over to put into an emergency fund, if not it’s time to cut back. Saving six to eight months of income should allow you to meet your needs and have some left over. This will cushion your funds and make them last longer if necessary.
Photo Credit: http://www.fiscallysound.com/your-emergency-fund-why-you-need-one-and-how-to-start-one/