Do you have an emergency fund?

When you’re living a fast-paced lifestyle, or just a regular one like me, you may come across some out of the ordinary expenses that can impact your financial world pretty substantially. Especially when you aren’t prepared. But, guess what. Being prepared isn’t difficult whatsoever, it takes almost no mental effort and hopefully no physical effort. You just need a plan.

Lately we’ve had to throw money around like it’s cool to pay for things like a home inspection, vehicle repair, and a trip to Rhode Island for my sister’s college graduation. Ahh! Too many non-standard expenses! What is a JM to do? I’d say that I’m fortunate to have a savings account to dip into to pay for these expenses, but then I wouldn’t be giving myself the credit I deserve. The bottom line is: None of these expenses made me accrue debt, because I am always prepared for “out of the ordinary” expenses.

It’s become conventional wisdom that you should have an emergency fund or a rainy day fund. While an emergency fund may be a great thing to have, I think it can seem either intimidating or pointless by those people who may still have debt. Some of the finance gurus recommend 3-6 months of expenses in an emergency fund which sounds like the most daunting task on Earth.

If you’re under the impression you don’t need any savings, you’re wrong. Plain and simple. I think that developing a small nest egg is even more important than paying off debt, because being prepared is the best way to thwart off an increase in your debt. While I don’t think you need 3-6 months worth, I think you should reasonably calculate all of the things that could go wrong in your life and how much they would cost you. I like to imagine all of the bad stuff happening in one instance, that way my savings would cover anything short of a nuclear holocaust.

Car owners should have enough put away to pay their insurance deductibles, as well as any standard non-cosmetic repairs. Anyone who works a job without paid vacation days should have enough money saved to pay for unexpected days out of work, like in the case of a family member dying, or becoming hospitalized. We don’t like to think about stuff like this happening, but fortunately we can provide a little financial control in situations that really suck emotionally.

Once your emergency savings passes whatever threshold you determine is necessary to prevent yourself from letting Murphy’s Law push you into debt you can start saving to build wealth.

The oversimplified equation that I personally use for emergency savings is: The deductible on my home owner’s insurance policy + The deductibles on both of our vehicles + One thousand dollars for incidentals. The total is around $13,000, and our account never strays very far from that amount. My job is very generous with paid annual and emergency leave, so thank you taxpayers.

Peace of mind can be a powerful force, and if it’s the key factor that’s driving you to save and payoff debt then having money readily available can only help to ease your mind. Personally I think that having cash on hand for emergencies trumps the necessity to pay down debt. There are so many uncertainties in life, and there’s a clear reason why emergency funds are so heavily advocated. I’m not saying that you shouldn’t pay your debts, but you can stick to a “minimum balance only” plan until you have enough cash on hand to make you feel warm and fuzzy.

Once you hit your “magic number”, as far as emergency savings goes, then you either go down one of two roads: If you’re in debt, you start paying them off (highest interest rate to lowest). If you’re debt-free, you start investing. Use the time when you’re building up your emergency fund and paying down debt to learn how to invest.

For those that are completely lost with their finances and wouldn’t know where to begin with setting up an account like this here are the basics that you need to know: Call your bank, or log onto your bank account through their website and open up a Savings account. Typically, banks will let you name your accounts whatever you want to call them. In this case call the account “Emergency fund”. I would then set up an automatic transfer (either monthly, weekly, or whatever frequency you feel comfortable with) to move money from your checking account to the Savings account, so you don’t forget and end up being behind. Boom, that’s it!

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Only use your emergency fund if it’s an absolute emergency, but whatever you do don’t put yourself into debt because you don’t want to touch your precious savings. You may get pretty hooked on the fact that you have all these extra zeros in your bank account and you don’t want to lose them, but that’s what that money’s there for. Either way, you now have a spiffy new emergency fund (or are on the right track to getting one) and you’re one step closer to Financial Independence.

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