Do you have questions about an emergency fund? Do you wonder what is it? How much should it be? How to save one up fast? Where to put it? What effect does inflation have on it? Well, this article is all about emergency funds!

So, to start with, are you wondering how much to save for an emergency fund? 

That’s a common question, because believe it or not, having too much in your emergency fund can be as troublesome as having too little. But let’s start at the beginning:

What is an emergency fund?

An emergency fund is an amount of cash that an individual or family will keep on hand in case of an emergency. (Pretty obvious, huh?) The goal of an emergency fund is to have some cash available for when you need to replace a tire, make a trip to Urgent Care, or take your dog to the vet after she eats your daughter’s entire chocolate birthday cake and needs to have her stomach pumped (that may have happened to us to the tune of $429 … the dog is fine). A fully-funded emergency fund can bridge the gap in the case of a surprise job loss, a medical circumstance that leaves you unable to work, or a broken heating and air system.

An emergency fund puts a little bit of financial breathing room between you and a financial disaster.

So, how much should your emergency fund be?

It depends on your circumstances.

If you are just starting out as an independent adult without any dependents and living in a rental, $500 – $1,000 is a good starting-out emergency fund. That amount of money is generally enough to cover the kind of emergency you are likely to have: a small medical emergency, a moderate car emergency, or airfare if you need to urgently fly to a funeral. More is better, but $500 to $1,000 is a good place to start.

On the other hand, if you have a family, dependents, a house … you should strive to have a fully-funded emergency fund of three to six months of household expenses. When your life-stage includes dependents and a house, the size and scope of your possible emergency become larger: replacing a leaky roof, replacing broken heating and air system, a trip to the emergency room for a broken bone.

Where should you keep your emergency fund?

The point of your emergency fund is for the money to be readily available in the event of an emergency so it should be kept very liquid and easy to access. By “liquid” I mean “not in an investment”. The job of your emergency fund is NOT to make you money; its job is to be waiting for you when an emergency happens! A high-interest savings account or a money market account are good choices; you can make a little bit of interest on the balance while still having the funds easy to access. You may want to keep some of your emergency fund in your house, just make sure you keep it far away from the “pizza” money (you don’t want to confuse the two).

An emergency fund is a little bit of financial breathing room between you and a financial disaster.

Dr. Stacy Mastrolia

Sometimes I am asked if a health savings account, or HSA, is the same as an emergency fund? The answer is basically, “no”. Because the money in an HSA can only be used for a medical emergency without incurring penalties and income taxes – and many types of emergencies are not medical emergencies. 

So, you know you need an emergency fund, how much it should be, and where to keep it – next is the hard part: how can you save up your emergency fund?

In 2021, the median family income was almost $80,000. After taxes, that is about $5,000 per month – of course the exact amount depends on your state’s income tax system but we can work with $5,000 for an example. Remember, your take-home pay will be less than $5,000 if you have insurance, retirement, or other withholdings at work. So, it is probably reasonable to say a family making about the median income would have about $4,000 in monthly expenses and would need 12 to 24 thousand dollars for their fully-funded emergency fund … Accumulating that much money can be a real challenge so here are a few suggestions.  

First, (if you don’t already have one) you need to make a budget. Assigning every dollar of your income a “job” will help you see how much you can put towards your emergency fund each month from your paycheck. 

Second, you could work a side-hustle to increase your income. Does your current job offer overtime? Do you have a hobby or skill that you can use to make some extra money? Can you deliver pizzas, groceries, or take-out?  

Third, you could cut your expenses. Have you price-shopped your car or house insurance recently? Have you reviewed your debit/credit card statements looking for subscriptions you have that you don’t use? Is there an indulgence you are willing to forgo for a few months to accelerate saving-up your emergency fund?  

Fourth, you could sell stuff that you don’t want or need anymore. Go through the attic, the garage, and the basement. Do you have extra furniture, tools, dishes, or appliances you’re not using? You could hold a yard sale or sell items individually through an online marketplace.  

Once you know how much you need to save for your emergency fund, you may find big motivation to intensify how much you are willing to sacrifice – not forever, just for a while – to save up your family’s emergency fund faster and put a little bit of financial breathing room between your family and a financial disaster. 

So, can you have too much in your emergency fund?  

Actually, yes. Because you will keep your emergency fund very liquid, accessible, and not in an investment, you want to make sure it is the “right” amount. If you allocate too much to your emergency fund, you will miss out on investing those excess funds and making a higher return. Managing your money well means having a proper-sized emergency fund and assigning the rest of your money to other savings, investing, spending, or giving goals. 

So, how can you handle the impact of inflation on your family’s emergency fund?

Because you will keep your emergency fund very liquid and accessible, inflation will negatively affect its value. As a result, when inflation is high (like it is now) you should re-estimate the amount you need in your emergency fund to cover three to six months of your family’s expenses. You will probably find that you need to increase your emergency fund a little, but this is far better than discovering you have an inadequate emergency fund when an emergency happens.  

So, here’s your to-do based on whether you currently have an emergency fund or if you don’t.  

If you currently have an emergency fund, make sure it is still enough based on your current monthly expenses. Has inflation made your current emergency fund a little anemic? Make a plan to boost it to the right amount based on your current expenses. 

If you don’t have an emergency fund yet, calculate how much you think it should be, open an account at your local bank or credit union, and pick one of the four areas I talked about earlier – budget, make more, spend less, sell stuff – to put the first $100 into your brand new emergency fund.  

Do you have any questions about an emergency fund? Let me know in the comments!