A recent study by Bankrate found that more than 20% of Americans have zero cash set aside for life’s inevitable emergencies. That same study showed that 35% of Americans would be forced into debt when faced with an unexpected expense over $1,000. That’s roughly 1 in 3 people who could face serious financial consequences because of their lack of an emergency fund.
A sizeable emergency fund can provide peace of mind as it helps cover unexpected expenses like medical bills, car repairs, home repairs, or even job loss.
It can be easy at higher income levels to deprioritize this type of savings. But the reality is without an emergency fund, these unfortunate situations can drift into a financial crisis or at the very least a major setback to long-term financial goals, even for wealthy individuals who may think they have substantial cash flow on a monthly basis.
In the event of a rainy day, do you turn to credit card debt that carries a high interest rate? Do you dip into your 401(k) and pay substantial penalties? Do you have to take out an additional loan on your home?
Any of these solutions will set you back in growing your net worth and hinder your ability to reach your financial goals like a comfortable retirement. Establishing an emergency fund can keep you on track when unplanned expenses happen—without penalties and high interest following you around.
In this article, we’ll dig into how much you should save, where you should keep it, and how to set it up to serve you best.
A good rule of thumb for emergency savings is to set side 3-12 months’ worth of living expenses. Within that range, the specific size of your emergency fund should correspond with your level of job security, the potential volatility of your income, and your personal financial situation (i.e. a single person with no children would be more comfortable with less in their emergency fund than a single-income household with multiple children).
3-12 months of expenses is a lot to set aside in cash, but don’t let that overwhelm you or prevent you starting to save money. An emergency fund is rarely built overnight, and just like retirement savings, the best plan is to start saving immediately.
If you are starting from scratch, the best way to build an emergency fund is to contribute a very manageable sum to a designated savings account every pay period – and make it an automated piece of your financial plan.
Set up automatic transfers from your primary checking account to your emergency fund after each payday. Start with an amount that won’t impact your ability to live comfortably with your remaining income so you can easily stick to it.
Every few months, make a modest increase to the direct deposit amount you contribute to your emergency fund until you reach your savings goal. You might be surprised how quickly that balance grows and the peace of mind it can bring.
The best type of account to keep an emergency fund in is an online savings account, separate from your primary bank account. We recommend high-yield savings accounts from banks like Ally Bank, Synchrony, or CapitalOne360.
Each of these banks pay higher interest rates than traditional savings accounts at brick-and-mortar banks. There will always be variation in the bank paying the highest interest rate, but it’s typically not worthwhile to constantly change banks to earn a few extra fractions of a percent. Pick a high-yield savings account you feel good about and stick with it, but don’t put up with unnecessarily high fees for no reason. We help identify great savings account options for our clients that are high yield and low cost.
An online savings account doesn’t just boost your interest earned on your emergency fund. It can make it easier to make good behavioral choices, too.
By keeping your emergency fund in an online bank that is completely separate from your primary bank account, it’s much easier to resist the urge to dip into those funds for non-emergency purposes.
That will help ensure the money is there as a safety net when you need it – no matter what kind of curveballs life may throw your way.
An emergency fund is a great step to safeguard your family and financial future from the unexpected expenses that you’ll face from time to time. But it’s also important to make sure you’re protected on a larger scale.
Life insurance, long-term care insurance, and disability insurance are important policies to research and get in place to protect your family in the event of your illness or passing. Here are a few articles to help you consider what policies might be right for you:
How Much Life or Long-Term Care Insurance Do You Really Need?
Is Life Insurance for You? 3 Questions to Ask Yourself
Disability Insurance: The Missing Piece in Your Financial Plan
If you’re ready to start making smart decisions with your money and build your wealth, take our brief financial wellness analysis, and learn in just 9 questions your biggest areas of opportunities you should be focusing on in your finances.