Emergency Fund: How Much is Enough?

What expenses do you really need to cover in an emergency?
What if you had to get by for a while without a regular paycheck? What are the bills and other incidentals that you absolutely must pay every month to get by? Here’s what should be on your list:

  • Rent/mortgage and utilities are must-pays. Although, getting rid of cable TV can save you upwards of $100 per month.
  • Food: Everyone has to eat. But not fast food or in restaurants all the time. Budget enough to cover a reasonable amount for groceries and then, if budget allows, meals/drinks/coffee out if that’s how you network in your job.
  • Medications: Don’t short-change your health during tough times, so include this in your monthly expenses. Talk to your doctor or pharmacist about ways to cut costs without risking your health, perhaps by switching to the generic version of any drugs you take or buying online (and in 90-day supplies).
  • Transportation: Don’t’ stop making your car payment. You could lose the car and hurt your credit score in the process. If you’re a two-car family in a town with decent public transportation, selling the second vehicle may be a way to stretch your emergency savings further.
  • Insurance: Imagine how much worse your financial situation would become if you got into a fender-bender or if a storm blew the roof off of your house and you didn’t have insurance to help cover the losses.
  • Recurring bills: Don’t overlook monthly bills (like your cell phone) or any expenses that are paid quarterly or annually. Down the line you can revisit your actual needs and start cutting costs such as downgrading your current mobile plan) when your contract ends.

Here are two categories of things NOT on an emergency list:

Luxuries: Things you can live without like gym memberships, summer camp for the kids, scrapbooking supplies.

Savings:  While it might be painful and counterintuitive to put your savings plan on hold while you’re not bringing home a paycheck, it’s best to put your limited funds to work to cover current expenses. But, once the emergency is over, don’t hesitate to get back on your long-term savings schedule.

Now, once you determined what it actually costs to run your life, you can calculate exactly how many months of expense savings you actually need.

Do you really need to have enough emergency savings to cover 3, 6 or even 12 months of expenses?

That depends. A guideline might be that the less steady your paycheck and the more people who depend on your income, the larger your emergency fund should be.

The standard answer isn’t going to apply to every situation for every household. But the 3-6-12-month rule-of-thumb is a good starting point for figuring this out. After that, targeting the right sized emergency fund for your particular employment/dependents situation can be focused by answering the following questions:

  • How regular is your paycheck? Freelancers, contractors and anyone who doesn’t have a traditional full-time salaried gig need to financially brace themselves for feast-or-famine times. This is especially true if you have just a few big clients who, if they went away, would put a serious crimp in your paycheck.
  • How healthy is your company? Do you work in a high-turnover field? Is the company you work for on shaky financial ground?
  • How many people depend on your paycheck to support them? If you have a stay-at-home or part-time worker spouse and kids, your emergency fund should be larger than the single guy who has a healthy cat.
  • What are job prospects like in your current field? Do you have skills that are in high demand? Or would it take a while to find employment?
  • Are there others in your household that can work and contribute to the household when you aren’t?
  • How easy is it for you to access other money, such as a home equity line of credit or other savings? If you can access money elsewhere, you can justify a smaller emergency savings.

Nobody panic. The three/six/twelve-month emergency savings guideline should be based on your monthly expenses, not your income. Your emergency fund simply needs to be enough to cover your must-pay expenses.

The important thing is to start saving and making an emergency savings account a priority and to adjust accordingly as employment situations and family needs change.