Getting Your Financial Ducks In A Row Rotating Header Image

Safety with an Emergency Fund

scissors - don't run with theseToday’s message is about Safety – but not things like “don’t run with scissors” or “wait a half hour after eating to go swimming”. What we’re referring to is the old concept of having an emergency fund. The primary thing that you should take away from this Safety discussion is Peace Of Mind.

An emergency fund is a vital component of your overall financial toolkit. You should have 3 to 6 months’ worth of expenses set aside in a liquid, stable account, such as a bank passbook savings account or a money market account. By “liquid” we mean that the funds are easily valued and withdrawn as necessary. By “stable”, we mean that the funds are not at risk due to market volatility, but also that there is some return in the form of interest to the account, however small.

Why do you need an emergency fund? First of all, even though it may seem like your employment is stable – there are millions of your fellow Americans who would tell you that nothing is stable. Your employment can dramatically change from one day to the next. With an emergency account, you can face this situation with much more confidence. That’s not to say that you wouldn’t be seriously impacted by a layoff, but having an emergency fund will help to cushion the blow.

Secondly, if you’ve got an emergency fund available, the next time your car breaks down, or you need a new roof, or the washing machine shoots craps, or you need new tires – you won’t have to go into debt to pay for it. And don’t feel guilty about using the funds in the emergency account, that’s what they’re for. Just be sure that  1) it’s actually an emergency; and 2) you repay the funds you’ve used (with the funds that you would have used to pay off those credit cards!).

Actually an emergency – we listed a few things earlier, such as your car breaking down or the washing machine falling apart, that constitute those day-to-day emergencies that in the past you might have reached for the old credit card to handle. With your emergency fund you don’t have to run up your credit card on these things. That doesn’t mean you raid the emergency fund to pay for those new golf clubs (sorry, not an emergency!) or to get that perfect pair of Jimmy Choos (also not an emergency). This fund’s use should be limited to real emergencies – things that you have to make tough choices about, like if I only had money for food or this “thing”, what would I choose?

Repaying your emergency fund – after the emergency is over, in order to pay back the money in your emergency fund to prepare for the next emergency you may need to divert some of your retirement savings temporarily. This has a higher priority than retirement saving, since the existence of your emergency fund allows you to maintain peace of mind as well as to keep from running up credit card balances in day-to-day life.

7 Comments

  1. cowboy MikeNo Gravatar says:

    Because our income is 100% commission based we have a full years of operating funds in our emergency fund. Jim do you think I savings Bonds are good vehicles to use to park emergency funds?
    Happy trails, Mike

    1. jblankenshipNo Gravatar says:

      Hi Mike – as long as you can get to the funds in a timely manner I don’t see any problem with using I savings bonds for this purpose. And yes, when a family is dependent upon a source of income that can readily wax and wane as with commissions, a full year’s worth of funds is more appropriate for emergency funds.

      jb

  2. anonNo Gravatar says:

    The 3 to 6 month expense concept of an emergency fund is a laudable first step goal. Emergencies generally occur due to lack of planning. When (not if) my 12 year old car becomes unreliable or uneconomical to fix, I will have to get a replacement. 3 to 6 months expenses is not going to match this liability, as I will buy with cash, a car about two years old. It will be a hassle but not a financial emergency as money has been budgeted for this eventuality.

    1. jblankenshipNo Gravatar says:

      Absolutely – this is very much a first step toward getting a handle on your cash flow. Later on is when you get to the stage of paying cash for depreciable items like automobiles as you mentioned.

  3. JayNo Gravatar says:

    A sizeable taxable investment account can also be used as an emergency fund as long as the account is significantly larger than anticipated emergency needs. Yes, you may sell at a loss IF you have an emergency and IF the market is down when you have an emergency. I don’t have an EF but wouldn’t likely go into debt in an emergency. Charge the card, make a trade, then pay the card in full. The best strategy really depends on your situation.

    1. jblankenshipNo Gravatar says:

      I agree, Jay. That’s a step or two down the line of maturity in dealing with personal cash flow beyond what I was describing with the emergency fund concept, but there’s no reason it shouldn’t work just fine (as it sound like it is for you).

  4. […] Safety with an Emergency Fund from Jim Blankenship […]

Get involved!

%d bloggers like this: