This post is part of the 2020 The Clarity Project, a yearlong series of challenges to get organized and simplified with money. Read about the project at this introductory post here.
January’s Clarity Project word theme is SAVE.
This Week’s SAVE Challenge: Get $1,000 (or $1,000 more) into a dedicated, specific emergency fund. Here are the 5W1H (the 5 Ws and the 1 H) to explain about emergency funds.
WHY Should You Have an Emergency Fund?
An emergency fund, or money set aside for unexpected and critical expenses, is a key element of a good money life.
Nearly 40 percent of Americans could not come up easily with $400 to cover an unexpected expense. That is a problem!
This statistic is from an annual survey on economic well-being from the Federal Reserve. It found that in 2018, nearly 40 percent of Americans would not be able to pay for a $400 expense without going into credit card debt or borrowing from friends or family. (This is one of the markers of economic fragility).
You can read the entire survey here.
This may or may not be you, but nearly everyone could use a boost in their emergency fund.
Emergency or large expenses cannot be planned for, but they often happen, and having an account for these can take a lot of pressure off of your money life.
WHEN Should You Create an Emergency Fund?
-proverb
The best time to plant a tree is 20 years ago; the second best time is today.
One of the first suggestions I make to coaching clients is to set up or increase their emergency funds. We talk about ways to free up some money to help that happen, and I also walk them through how to create it as a separate account.
WHO Should Have an Emergency Fund?
I think there’s really not too early of an age to start an emergency fund. And if you have responsibility for yourself or anyone else, you should definitely have an emergency fund. But even those who are young and unencumbered should consider having one.
Even though all of our kids still live and home and have the Mom & Dad safety net, I have talked to each of them about setting aside $1,000 even now in an emergency fund. As they set up their financial lives, a $1,000 emergency fund in place before they begin to set up their own households is a great benefit.
WHERE Should Your Emergency Fund Live?
It is important to keep your emergency fund separate from your other money, especially your regular checking account.
I recommend that clients put emergency fund money in a high-yield savings account (usually from an online-only bank), and to have that account be ONLY for emergency expenses.
One of the best things our family has done in recent years is set up multiple savings accounts for different goals—and one of those is the emergency fund.
What I love most about this is that in the past, we had a savings account for everything—savings for our next vehicle, school tuition, a house project, travel, and emergency fund, among other goals. And I always felt bad to spend the money for, say, summer vacation. That is because somehow, I thought about it as all emergency fund money.
Now, there are many positive about having them all separate. I will share some of those later in the month when I walk you through how we set up our savings accounts and how we fund them.
We use Discover Bank because it’s online and I already have a Discover credit card. It made it very easy to use and has one of the highest interest rates for online banks. Some of my clients use Capital One, or Ally Bank. All of those offer relatively high interest returns.
WHAT is an Emergency Fund for?
An emergency fund is not for birthdays, or Christmas presents, the latest sale at your favorite store, or going out for a friend’s birthday.
An emergency fund is also not for reoccurring large expenses, like annual auto insurance premiums or real estate taxes. Those can, and should, be planned for.
An emergency fund is for true emergencies—like a major car problem; a home repair issue; or travel to visit a sick relative. If you have that money set aside, you do not need to take from regular income, or go into credit card debt.
HOW Much Should I Have in my Emergency Fund?
Many money coaches or writers suggest you have from three to six months spending in an easily accessible emergency fund. To this money coach, it is very individual to each family or person. If you have a stable W-2 job, you could probably stand to have less in your account. If you have variable income, a larger emergency fund is a good idea.
It is important, however, to set an emergency fund goal and work diligently to reach that goal. First goal? $1,000. After that, set another goal that works well in your family, and then work towards achieving that. Having that peace of mind is–as the credit card ad goes– “Priceless.”
Bonus One: Money Mindset Tip
If you are saving to add something to an emergency fund, especially if you do not have one yet, tell yourself:
I can have this, but not yet.
-Money Mindset
Delayed gratification is one of the most important tools you can have in your money toolbox.
You may decide that you want to cut out a particular expense, like eating out to lunch once a week—to add money to the emergency fund. Remind yourself that it doesn’t mean you will never eat out again for lunch in your life. You can eat out again—just not yet, or right now.
An easy way to stick with this money mindset is the keep a “purchase wants” list.
I have mine as a a specific note on Google Keep, and have found it invaluable in cutting down on non-essential spending. Just writing down the name or description of the item can have a similar effect to buying it, and I often find that later I look back and think, “Why again did I want to buy this item?” The list also allows me to go back later and find ideas for Christmas and other presents, or purchases I actually need but want to delay.
Bonus Two: Extra Credit Reading
Ever challenge, I will provide some extra reading for further learning and ideas.
Clarus Money Coaching: Five Ways that Tidying Up with Marie Kondo is a Lot Like Money Coaching
This is not exactly related to an emergency fund, but does share an article I wrote about a year ago.
Remember how Marie Kondo’s Netflix show caused a stir and had people cleaning out their spaces and filling up local Goodwills? I talk in this article how Kondo-ing is a lot like money coaching.
Dave Ramsey: Four Quick Ways to Build Your Emergency Fund
I have mixed feelings about Dave Ramsey. On the one hand, I acknowledge he has helped thousands of people get organized with their money. But I do not fully agree with some of his advice beyond “the basics.” (say, beyond babystep #3)
Discover: Four Places to Keep Your Emergency Fund
Later this month, I will talk all about high-yield savings accounts, but this is an interesting. I actually really like the idea of using a Roth IRA as an emergency fund, but I know it’s controversial. And if someone does not have
NerdWallet: Emergency Fund: What it is and Why It Matters
Best take-away from this article: keep your emergency fund SEPARATE from other spending. A dedicated savings account ONLY for emergencies is critical. And then if you have savings for other goals (travel, etc.)
J. Money: Be Proud of Your Emergency Fund!
Whether you have a lot or a little, it’s worth being pleased with any steps that you take related to your emergency fund.
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