Emergency Fund – How Much Is Enough?

       Over the last two weeks, we’ve looked at why you need an emergency fund and where you should keep your emergency fund. Today, we’re going to talk about how much you should save in your emergency fund.

       There’s a wide range of advice out there regarding emergency funds. My approach is designed to be simple, straightforward, and safe enough to cover most emergencies. If you feel like you should save more or less than I recommend, then do what works for you.

Base It on Living Expenses

       When figuring out how much you’ll need in your emergency fund, you’ll need to know your monthly living expenses. This should include everything you’ll have to keep paying if you lose your job. The budget items you’re most likely to drop are income taxes and savings. If you want to keep up your monthly savings, then include that in your living expenses. It would be best to include monthly savings, but it’s always something you can shoot for later.

       To figure this out, you’ll need to have created a budget. If you haven’t done that yet, you’ll need to work on making your budget. Don’t worry – it’s not complicated. Don’t think you can get around it either – a budget is a powerful tool that you’ll need to do this, to see where you can save the most, and to figure out how much you should save for retirement.

Essential: One Month of Living Expenses

       You absolutely must have at least one month’s worth of living expenses saved in an emergency fund before you do anything else – even paying off high interest debt. Why? It’s not going to do you any good to pay off your credit cards if you’re going to have to use them again to cover your emergencies. The very first step you need to take in getting your financial house in order is to save up at least one month of living expenses. Throw everything you can at this goal – earn more, spend less, and sell your extra stuff if you need to. After you’ve taken care of your high interest debts, you can push toward a larger emergency fund and other goals.

Milestone 1: Three Months of Living Expenses

       Once you’ve got your debt under control, your next emergency fund milestone should be three months worth of living expenses. This gives you a large enough cushion to withstand a job loss if you can find another job fairly quickly. It will also help you cover car repairs, some medical bills, and other small to medium sized emergencies. If you’re married and you both have stable jobs, you might feel comfortable stopping here. If you’re single, married with one income, self-employed, or have an unstable job, you’ll want to keep going.

Milestone 2: Six Months of Living Expenses

       An emergency fund with six months worth of living expenses should be large enough for most people. You’ll have plenty of time to find a new job in most scenarios. However, you might want a larger emergency fund if the economy looks bleak or if you are single or married with one income and you have an unstable job or you are self-employed. In those cases, I’d recommend going for a larger emergency fund.

Milestone 3: Twelve Months of Living Expenses

       If you’re self-employed or have an unstable job and you rely on only one income, you’re going to want to play it safe and save up twelve months of living expenses in your emergency fund. This will help you make it through rough patches in your career when profits are down or you lose your job. This would also be a great idea if you or your children have medical needs that require large payments at unpredictable intervals.

Adjust for Your Situation

       If you feel that your situation doesn’t fall into one of these specific categories, then use these as guidelines and save what you feel you’ll need. This guide should help most people get close to the right sized emergency fund for them. Don’t get discouraged if you feel like it’s a lot. Attack this goal in small steps and you’ll quickly make progress. If you have questions, just leave them in the comments and I’ll try to help!