What happens if your car breaks down in the middle of the road? Or the boss tells you that the company is downsizing and you’ll be losing your job? What if your heating system decides to die in the middle of winter? Or you need to be hospitalized immediately? If any of these emergencies were to happen today, are you financially prepared for them?
If your answer is “no,” then it’s a good time to think about setting up an emergency fund. Having enough money to cover unplanned expenses makes it easier to recover from life’s bumps and bruises, and can help alleviate stress in emergency situations and provide peace of mind.
But you may be wondering – doesn’t a credit card serve as a good backup for funds in case of emergencies? Of course it does, but you need to keep a few things in mind. For starters, credit cards provide borrowed money, which means you have to pay it back. And if you don’t pay it all back at once when your monthly statement comes due, you’ll be hit with interest. Interest charges can snowball pretty quickly, and for a lot of people they can lead to massive credit card debt.
Financial experts will tell you that an emergency fund should be part of every household budget. It should be as high of a priority as putting money aside for a down payment on a new house or car, or financing your child’s college education.
But how do you know what’s an adequate amount to have in an emergency fund? A good goal for your emergency savings account could be anywhere from three months’ worth of your salary to a year’s worth of your salary, depending on how much you make each year, and how prepared you’d like to be. When deciding the right amount of savings to aim for, think of what it would be like to unexpectedly lose your job. How much would be enough to pay for routine monthly household bills such as rent/mortgage payments, utility bills, and groceries? And how many months do you think it would take you to find a new job?
It may seem overwhelming to think about amassing that much money, but it’s okay to start small. By earmarking a certain amount of money to stash away in your emergency fund each month, you’ll be on your way to achieving your goal emergency balance. And one of the best ways to ensure you stick to your savings plan, is set up your paycheck to direct deposit a certain amount from each paycheck directly into your emergency savings account. If you don’t see the money, you likely won’t miss it! If your job offers direct deposit, your employer can likely help you set it up so your paycheck is split between your desired accounts.
Another way to reach your savings goals as quickly as possible is to stash your money in a high-interest savings account. Many online-only banks offer higher interest rates than traditional brick-and-mortar banks, because they have fewer overhead costs. Online banks save on costs associated with running physical locations, and they pass those cost-savings along to customers in the form of higher interest rates. The higher the interest rate, the more your money grows.
The key is to stick to your emergency savings plan, and make sure that you contribute to it on a regular basis until you reach your balance goal. You’ll be happy you did when an emergency arises and you have the money to pay for it without racking up debt.