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Budgeting Basics: The How (and How Much) of Emergency Funds

in Joan's Posts, Money Basics

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Note: This is a post from Joan Otto, Man Vs. Debt community manager. Read more about Joan.

Last week, I kicked off a series about Budgeting Basics by tackling What Is An Emergency Fund?

We talked about what such a fund should – and shouldn’t – be used for, and I promised then that I’d talk more about the financial details this week.

So let’s dig deeper and peer into the amount that should go into your emergency fund – and how on earth you’re going to get it!

How much should you have in an emergency fund?

Easy answer here: Whatever amount makes you comfortable.

Personal-finance experts will give you all sorts of figures here – $1,000; two mortgage or rent payments; six months’ living expenses; a year’s mortgage or rent payment; a year’s living expenses; almost any amount you can think of, there’s someone out there who espouses it as the magic number.

My take? There is no magic number for your emergency fund. Only you know your income and expense circumstances. But I do believe this works in phases, and I have some ideas about how to find the right amount for you.

  • Bare minimum: My suggestion is that EVERYONE should have a base $1,000 in an emergency fund before tackling debt repayment, a piece of advice we espoused wholeheartedly in You Vs. Debt. If you use some of this base fund, you halt any extra debt-repayment or savings goals until it’s replenished. This amount won’t change the world, but it will go a long way toward dealing with a standard car or home repair or medical issue, the most common types of real financial emergencies.
  • While in debt: While you’re paying off debt, it’s your choice how you deal with savings. I personally prefer to keep at least one month’s mortgage/tax payment in my emergency fund at ALL times. I need a house. And if a real crisis hit, that one month of breathing room would mean a lot. The goal of the emergency fund for me is to reduce fear. So what scares me? Losing my house. One month’s mortgage payment in my back pocket reduces fear. Here’s the key: Having two months’ mortgage payments doesn’t reduce my panic level any more significantly than one. So that’s what allowed me to make this decision – I figured out what gives me comfort, and saved at that point.
  • No debt? This encompasses a huge set of circumstances. Maybe you’re debt-free but living paycheck to paycheck. In that case, if it were me, my “reduce fear” factor would tell me to work, over time, to build up a significant emergency fund. What if you’re debt-free and dropping one income of a two-income family into various savings goals and investments? Well, in that case, you probably don’t need a huge “emergency” fund, because you’ve accounted for most potential needs as planned expenses by, for instance, funding a medical-expenses budget that would cover such needs if they come up.
  • Irregular income: A particular note here for those whose incomes are not fixed: Any advice you read will tell you to save more money if your income is inconsistent. I agree. In fact, I’m in the process of making this change myself over the past year, as I had spent the previous seven years budgeting using two fixed annual salaries, which has changed to, at this point, two freelance incomes! Some of it is “steady” income, but even so, our needs and our fears are different in light of our irregular income.

Again, the amount in your emergency fund is entirely up to you, but my suggestion is to focus on one question.

What scares you? And what amount of money would it take to reduce that fear?

How do you “fund” your emergency fund?

Ooh. This is the hardest part, especially at first.

If you currently have zero dollars set aside in any kind of savings and are living paycheck-to-paycheck, it probably seems impossible to get $1,000 set apart. This is the question we hear most often in emails here at MvD: How is it possible to get started?!

Honestly? My best suggestion is NOT to set aside small amounts from each paycheck. Later, that’s great, but you’ll spend two years building a modest emergency fund and probably get hit with five “emergencies” in that time if you do it slow.

There are two key ways to get a base emergency fund established, and then a couple additional ways to keep it growing or rebuild it after it’s used. So, to establish your fund…

  • Sell your crap. C’mon, you knew this was coming. Doing a focused purge and getting some money for things you’re no longer using is probably THE top way to make extra money fast, and it’s great because it doesn’t require an ongoing investment of time. Get a bunch of ideas on how to get started crap-selling here.
  • Side hustle. You saw that coming too, right? You’re not going to “save money” and get big dollars to put toward an emergency fund by cutting out coffee for a month. You should definitely do that if it’s right for your budget, but spending less has a cap, where earning more does not. That’s where side-hustling comes in. Get an extra income stream. I believe that EVERYONE can make an extra $200 a week, at least for a short period of time. Do that for a month, and you’re most of the way there!

Once you have a minimum of $1,000 in savings, you can keep selling crap and hustling to get to the dollar amount that makes you most comfortable in your present phase of life.

But you can also add in other techniques, like making regular automated transfers from your paycheck or checking account. This treats your emergency fund like a bill to be paid each month, and is a good way to keep the fund growing and to build it back up if you’ve had to dip in.

We tackled several questions about emergency funds last week in the comments. Once again, I’d like to ask you to share your questions, successes and struggles.

What’s your “fear factor” emergency fund amount?

How did you – or are you – funding your emergency savings?

Please let us know in today’s comments!

{ 27 comments… read them below or add one }

Linda Montgomery January 6, 2014 at 10:10 AM

Joan,

What a great article! Thank you. There was some terrific clarification in there.

I’m going to have to really think about what scares me and attach a dollar amount to that. My boyfriend hasn’t worked for quite a while and his savings is almost gone. We own a house together so I’m guessing several months mortgage and household bills would bring a lot of comfort to both of us.

Thank you also for the reminder to sell my crap. I lost momentum over the holidays. It’s time to get back into action!

I have an etsy site that needs to be stocked and some items to list on eBay. I also have the day off due to the crazy cold snap going through the Midwest. Guess I know what I’ll be doing today!!

Thanks so much for the very timely article.

Best,

Linda

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Joan Otto January 6, 2014 at 1:02 PM

Linda, that rocks!! I hope your crazy cold day turns into a crazy profitable one! :)

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Justin @ Decisive Dollar January 6, 2014 at 11:08 AM

The first way I funded my emergency fund was by selling (eBay) all of the things I owned that were not necessities and didn’t use on a regular basis: digital camera (use smartphone instead now), second watch, excess gently worn clothing, etc.

The second way I funded it was by making deposits with all of the money I received from the holidays (Christmas, birthday, graduation).

Finally, I used income from my job to make deposits until it was up to the amount that I feel comfortable with, which is about six months of living expenses.

Overall, I do agree that it’s an entirely subjective amount that specific to the individual.

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Joan Otto January 6, 2014 at 1:04 PM

Justin, those are great ways to build up the fund!! That rocks!

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pt January 6, 2014 at 11:51 AM

Hi Joan,

Another smashing post. Thank you.

Here’s what scares me:
Losing my job
Medical emergency
Medical emergency for family members

And what amount of money would it take to reduce that fear?
Having a year’s emergency fund in a totally liquid online account.
I need to build up another 6 month’s worth of funds to achieve my goal.

How did you – or are you – funding your emergency savings?
I sold off a bunch of crap I didn’t need. For the next six months, I am going to cut personal expenses (eating out less, ABSOLUTELY NO SHOPPING, cut out a $6/day coffee habit.)

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Joan Otto January 6, 2014 at 1:15 PM

PT, it sounds like we have a lot of the same fears, and I love the idea of a fully liquid one-year fund! Good for you – hope you’ll keep us posted on how the savings are going!

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katybee January 6, 2014 at 12:05 PM

I was lucky enough to eliminate the rest of my payments after a couple family members paid back the credit they borrowed from me. Because I paid off the cards before they did, when they paid me back all the money went directly into my emergency fund. Result is I now have about $3900 in my fund/3 months worth of rent. It’s a start, I would like to get to about a year’s worth eventually. What a liberating feeling not have to worry about furloughs or illness again.

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Joan Otto January 6, 2014 at 1:16 PM

So glad you were able to take that money and put it to an immediate use! That’s a solid start!

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Liz January 6, 2014 at 12:26 PM

Ooh, I like the introduction of the fear factor Joan! Rent is always going to be my biggest priority, since for some reason keeping a roof over my head is my biggest fear.

Things that scare me:
Job loss
Medical Emergency
Losing my home

Fortunately, between my emergency account and my “irregular/overflow” savings (linked to my checking), I easily have two months (total, not including roommate contributions) rent+electricity and I’m working to build that to 3-6 months! Luckily, water+gas are built into my rent payment. :)

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Joan Otto January 6, 2014 at 1:18 PM

Hi Liz!! That rocks – and sounds like you have a jump ahead on next month, when I plan to talk about the irregular funds :)

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Debt BLAG January 6, 2014 at 12:30 PM

If I were starting from no emergency fund at all, I’d prioritize it ahead of saving for retirement, paying extra on debt, and a lot of discretionary spending. It sounds almost circuitous, but not having an emergency fund is an emergency!

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Joan Otto January 6, 2014 at 1:18 PM

100% it is!! THAT is the mindset that got me motivated!

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FrugalTeacher January 6, 2014 at 1:48 PM

When I first started work (before my first paycheck) I moved 800 miles with everything in my little Dodge Neon. Not two days after I unloaded into my new apartment did my car die. $600 repair cost for a recent college grad who’s emergency fund was the $1,100 left from student loans! Luckily, that was an early wake-up call to make sure I built a bit of a buffer before making any loan payments – didn’t even know it was called an emergency fund!

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Joan Otto January 6, 2014 at 9:53 PM

Doesn’t matter what you call it, as long as it does the job, right?! I admit it’s not great to be in a situation like that, but I know a lot of people who wish their wakeup call was to the tune of $600 instead of thousands and thousands – and others who would have had that experience and NOT learned from it. :)

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Katy January 7, 2014 at 9:42 PM

I’m most nervous about home repayments, so we overpay our mortgage significantly. We’re always at least $30,000 ahead. That way if we ever hit significant financial strife we can pause repayments for as long as that find lasts. And I like that it offsets the interest we have to pay on our mortgage at the same time.

Here is Australia we’re lucky to have free healthcare and good social support. I keep a big pantry on rotation for food and we already have enough clothes so that’s our bases covered at least for a while.

Sure the best kind of emergency fund is debt freedom though!

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Joan Otto January 10, 2014 at 4:17 PM

Katy, you’re so right about that – no debt will be a GREAT emergency-fund feeling for me!!!

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Regina Marie January 9, 2014 at 5:11 PM

This is s emerging I’m going to really need to think about. How much I need to have in the emergency find to reduce fear.

Our situation is quite a but different from most of the readers, as my family and I live aboard our sailboat.

My fears?
Losing out home (sailboat)
Not being able to afford to
Not having the money to get back to the USA if we travel.
Not being able to fine work

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Joan Otto January 10, 2014 at 4:18 PM

A sailboat? How cool!! But I can imagine that leads to its own set of concerns, too, and I like how you’re thinking about it!

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Joe Moore January 10, 2014 at 5:50 PM

My wife made $3,000 on ebay selling the staff that wouldn’t fit to our new home. We downsized and couldn’t take them anyway. Each time she cursed me for having to sell the staff she collected over the years but I was proud of her to make so much money. That was the rent sorted out for several months and I was happy. When you don’t know what can be done, the advises like sell your crap and pay debt may seem dry. But, it is actually very practical. You guys are great. I still remember one article I read years back about how not to sell a car.

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Joan Otto January 17, 2014 at 6:39 PM

Thanks, Joe! I’m glad we could help – and your wife is awesome for making that much money!!

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Den January 11, 2014 at 2:01 PM

Thanks Joan for the reminder about the importance of an Emergency Fund. We have $1,000 for now, but it doesn’t quite allay our fears so we’d like to bump it to $2,000 while we keep working on our debt snowball. However, a big car repair bill is looming so not sure how that’s going to happen – time to sell some more stuff again and do a “no spend” month.

I’d love to see an article on the roller coaster ride that is our EF – it’s great when it’s funded, but then when an emergency happens and we use it, it’s a bummer to have to refund it again…..over the last 4 years of our debt snowball we’ve had to refund it quite a few times and it’s hard to not get discouraged….that’s life I guess and still so much better to have it available then to have to scramble!

Thanks again for keeping us motivated!

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Joan Otto January 17, 2014 at 6:41 PM

Den, that’s a great point! I think for us, the biggest key is that the more we have saved in the emergency fund, and the more debt-free we are, the LESS often we end up needing to use it! So that kind of seems weird, I guess, but at the same time, I can see how we’ve been hitting ours less frequently than ever, and it feels great!!

Thank you so much for all the kind words! And good luck with the car repair bill – we’re cheering for you!

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Shannon January 15, 2014 at 2:42 PM

This is a really neat way to look at it! Anyone I talk to rolls their eyes and says my $10,000 emergency fund (and didn’t that take many years to save up!) is too much – but with EI that covers my expenses for a year, which is the average length in my area for a laid off worker to find new employment. It’s exactly the amount I need to keep me from being constantly afraid I’ll lose my job. It wouldn’t be a good thing, but I’m prepared!

I will use this explanation next time someone questions it. :D

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Joan Otto January 17, 2014 at 6:41 PM

Shannon, YOU ROCK!! Good for you for having the right amount for you, for beating back fear, and for planning ahead. We hope you’ll never need it, but we’re psyched that you have it if you do!

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Michelle January 18, 2014 at 12:30 AM

I haven’t had an emergency fund-ever. There were moments where I saved for travel :) But never for an emergency. I’m currently working on saving $10,000-$15,000 which would cover 6-8 months of expenses. I really enjoyed this post.

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Joan Otto January 19, 2014 at 10:37 PM

Michelle, that’s awesome that you’re working on that! Way to go!

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Jordan October 1, 2014 at 10:54 AM

I have a fairly diverse income: renting a spare room in my condo to a friend, freelance graphic design, and a full-time job. These combined with my modest lifestyle allow me to save about 60-70% of my earnings, and fortunately, not one of them is inherently dependant on another.

In case of emergencies I have saved approximately 6 months worth of my total living expenses. If and when this fund is reduced, I simply adjust the rationing of my savings, which is by default contributing to TFSAs, RRSPs, and continually growing my emergency funds anyway.

I do have a “magical number”, and when my emergency fund exceeds that total, I spill the excess into one of the other two savings rations.

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