Living in a society which encourages spending, it can be difficult to remember the power of having savings. Cash, however, creates opportunities that spending never can. An emergency cash fund is simply a savings account, and having one in the appropriate amount will change your life for the better. When something unexpected comes up, your emergency fund protects your other long-term investments.
You use your emergency funds so you don't have to withdraw from a retirement account (like a 401(k) or IRA) and pay early withdrawal penalty taxes, or so you don't have to sell long-term investments (like stock index funds or bond mutual funds) at a bad time.
Also, cash puts you in a position to buy when everyone else wants to sell, allowing you to make money in good and bad times. For this very reason, we encourage people to have an "opportunity fund" as well as an emergency fund. The opportunity fund is cash set aside that you can use to invest during bad times in the real estate or stock markets. First, you have to build up your emergency fund.
How Much You Should Have in an Emergency Cash Fund
Good
At a minimum, you should have three months of living expenses in your emergency fund. This means if you need $3,000 a month to cover your basic needs like your mortgage or rent, utilities, gas, and food, then you need $9,000 in your emergency fund.
Better
If you have people who depend on you financially, like children or a spouse, your emergency fund should be six months' worth of living expenses, at a minimum. In addition, if you work in a career that has high turnover or a high injury rate, you'll want to have double the amount of emergency fund as someone who works in a tenured career where layoffs rarely occur.
Best
As you get better at saving, work toward accumulating 12 months of living expenses in a savings account. If you're a high wage earner go for the $100,000 challenge: Get $100,000 of savings parked in a safe investment. Too many high wage earners feel the need to invest everything—which leaves them no liquid assets left over for emergencies or opportunities.
Where You Should Invest Your Emergency Cash Fund
Where should you invest your cash reserves? In a safe, easily accessible account. Not in stocks. Not in something that has withdrawal penalties or big tax consequences for cashing it in. InMaking Safe Investments, we cover six rules to use on investing safely. The key is your emergency fund should be in something low-risk.
Getting Motivated to Save
If you need some motivation to save a bit more, print the top 10 reasons list below and tape it to your refrigerator door, put a copy on your desk at work, or keep it in your car.
Read it frequently, until you can feel the power of cash—until saving feels better and more powerful than spending.
Top 10 Reasons to Have an Emergency CashFund
- Protects your family in case of a job loss
- Provides reserves for health or other family emergencies
- Gives you the ability to pursue attractive investment opportunities as they come along
- Helps you negotiate lower prices on major purchases
- Keeps you from losing money since you won’t need to sell other investments during down markets
- Allows you to avoid tax penalties from having to pull money out of retirement accounts too early
- Reduces stress, which increases health and well being
- Eliminates numerous marital arguments
- Creates a cushion to use for major household repairs
- Enables you to pursue bargain buying at someone else’s expense (someone who desperately needs cash)
The Need for Having an Emergency Cash Fund Once Retired
Once retired, if you are over age 59 1/2 you can withdraw from IRAs, 401(k)s, 403(b)s and other types of retirement accounts; any withdrawal is subject to income taxes, but not penalty taxes. Many people think that since they can withdraw at will, they no longer need an emergency fund. This is not true.
Hopefully, you've drafted a thorough retirement budget, but invariably you will be missing some expense items—and emergencies will still happen. A common unforeseen expense we see occur in retirement is when someone's adult child has an emergency, with 82% of parents saying that they would "make a major financial sacrifice for their adult child."
Even in retirement, you'll want funds that you didn't include as part of your official retirement plan, and you'll want them set aside in cash, just in case. Building up this type of cash reserve account is one of the five steps you'll want to take within five years of retirement.
FAQs
Sudden car repairs, medical emergencies or job loss can all lead to unexpected debt if you're not prepared. It's difficult to predict how much these or other emergencies could cost — but three to six months' worth of expenses is a good goal.
How much money should you have in your emergency reserve fund? ›
While the size of your emergency fund will vary depending on your lifestyle, monthly costs, income, and dependents, the rule of thumb is to put away at least three to six months' worth of expenses.
How much should you have in emergency reserves? ›
While you're working, we recommend you set aside at least $1,000 for emergencies to start and then build up to an amount that can cover three to six months of expenses. When you've retired, consider a cash reserve that might help cover one to two years of spending needs.
How much should you have set aside for emergencies? ›
Generally, your emergency fund should have somewhere between 3 and 6 months of living expenses. That doesn't mean 3 to 6 months of your salary, but how much it would cost you to get by for that length of time.
How much emergency cash should you keep in a safe? ›
“As a general rule of thumb, having access to $1,000 in cash at home would ensure you can at least pay for immediate expenses in the case of a national emergency,” she said.
Is $5,000 enough for emergency fund? ›
Saving $5,000 in an emergency fund can be enough for some people, but it is unlikely sufficient for a family. The amount you need in your emergency fund depends on your unique financial situation.
Is $1,000 enough for emergency fund? ›
How Much You Should Have in Your Emergency Savings. Here's a Dave Ramsey principle we agree with: If you make less than $20,000 per year, aim to have at least $500 in emergency savings. If you make more than $20,000, then aim for at least $1,000.
How much money should you have in an emergency fund quizlet? ›
As an adult, you should have 3-6 months worth of money saved away for your emergency fund.
What is an example of an emergency fund? ›
An emergency fund is a cash reserve that's specifically set aside for unplanned expenses or financial emergencies. Some common examples include car repairs, home repairs, medical bills, or a loss of income.
How much is too much emergency fund? ›
Your emergency fund could be too big if it exceeds three to six months' worth of expenses. That said, everyone has a different financial picture. Some people keep up to a year's worth of savings in an emergency fund, while others might find that sticking to closer to three months frees them up to pursue other goals.
“We would recommend between $100 to $300 of cash in your wallet, but also having a reserve of $1,000 or so in a safe at home,” Anderson says. Depending on your spending habits, a couple hundred dollars may be more than enough for your daily expenses or not enough.
How much should I keep in cash? ›
Most financial experts suggest you need a cash stash equal to six months of expenses: If you need $5,000 to survive every month, save $30,000. Personal finance guru Suze Orman advises an eight-month emergency fund because that's about how long it takes the average person to find a job.
Why is it important to set money aside for emergencies? ›
An emergency fund is essentially money that's been set aside to cover life's unexpected events. The money will allow you to live for a few months should you happen to lose your job or pay for something unexpected that comes up without going into debt.
Where is the safest place to keep cash at home? ›
7 Safe Places to Keep Cash Hidden in Your Home
- Taped to the inside of a dresser. ...
- A hollowed out book. ...
- A fake electrical outlet box. ...
- A package in the freezer. ...
- The bottom of your flour canister. ...
- Inside your plumbing access door. ...
- In the toilet.
However, money for everyday bills is probably safer in a bank account. High-yield savings accounts or certificates of deposit (CD) are good places to park emergency savings and other money you're socking away for a big-ticket item or event.
Should we pull money out of banks? ›
A bank account is typically the safest place for your cash, since banks can be insured by the Federal Deposit Insurance Corp. up to $250,000 per depositor, per insured institution, per ownership category.
Is $20000 too much for an emergency fund? ›
A $20,000 emergency fund might cover close to three months of bills, but you might come up a little short. On the other hand, let's imagine your personal spending on essentials amounts to half of that amount each month, or $3,500. In that case, you're in excellent shape with a $20,000 emergency fund.
Is $10,000 too much for an emergency fund? ›
Those include things like rent or mortgage payments, utilities, healthcare expenses, and food. If your monthly essentials come to $2,500 a month, and you're comfortable with a four-month emergency fund, then you should be set with a $10,000 savings account balance.
Is $100 K too much for an emergency fund? ›
It's important to have cash reserves available, but $100,000 may be overdoing it. It's important to have money available in your savings account to cover unforeseen expenses. Plus, you never know when you might lose your job or see your hours (and income) get cut, so having cash reserves at the ready is important.
Is 30k too much for emergency fund? ›
Most of us have seen the guideline: You should have three to six months of living expenses saved up in an emergency fund. For the average American household, that's $15,000 to $30,0001 stashed in an easily accessible account.
