Few things about financial planning are absolutely certain, but one thing is: expensive emergencies are going to happen. Whether your roof sprung a leak, you lost your job or your dog needs emergency surgery, you’ll need an emergency fund to cover surprise expenses.
Here is a quick guide to creating a successful emergency fund, so you can feel more confident when an unexpected cost comes up:
What is an Emergency Fund?
In a nutshell, an emergency fund is a safe, liquid savings fund that you can use for emergencies. It’s meant to be a sort of insurance policy, so that even if an expensive surprise pops up, you won’t have to go into debt to cover it.
The ideal emergency fund would cover three to six months’ worth of expenses. If you have a stable income, you might be able to get by with three months. But if you’re a business owner or have an unpredictable income, six months might be more suitable for your situation.
If that feels intimidating or unattainable right now, don’t worry: even six weeks’ worth of savings is a decent cushion. But if you’re starting from nothing or your emergency fund was wiped out, just start where you can. Sometimes it can be helpful to set up automatic transfers that deposit into your emergency fund whenever you get paid. That way, the money ends up where you want it to be without you having to think about it.
Where Should I Focus my Savings?
If you have multiple money goals, where should your emergency fund fall? What if you have competing goals, like paying down debt or saving for retirement?
The most important thing is that you establish the habit of putting money in your emergency fund and making sure it stays there until you reach your goal (or an emergency comes up.) Look at what you can do realistically, and make it as easy as possible for yourself to consistently add money to your emergency savings.
As for your other goals, look at what matters most to you and allocate money accordingly. But even if you have debt to pay down, still continue to funnel money into your emergency fund – even if it’s just a little bit. That habit is essential for success.
Where to Keep Your Emergency Savings
You want your emergency fund to be accessible, but not too accessible.
Don’t keep your emergency savings somewhere it could be lost or destroyed. Keeping the entire thing in dollar bills under your mattress, for example, is not a good idea. But you also don’t want to invest your emergency fund in the stock market, or anywhere else that’s too volatile.
You also want to avoid keeping it in your main checking account. That’s a surefire way to spend your emergency savings on impulse purchases. Those accounts also don’t typically yield much growth on your investment.
So, what’s the best option for your emergency savings? Try a high-yield savings account. It’s safe, accessible, and typically has a higher interest rate than your average savings account.
You could also opt for a money market account, which might have higher interest rates than a high-yield account, or a CD, which offers a fixed interest rate.
A short-term treasury bill is also a good option in some cases, especially when interest rates are high, because that’s when the prices are lower. Wherever you choose to keep your emergency fund, make sure it’s convenient enough to access in an emergency, but not so convenient that you can tap into it for everyday purchases.
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