Did you know that only 18% of Americans have an emergency fund that covers three to five months of living expenses? 25% of Americans don’t have an emergency fund.
Emergency funds just don’t seem to be a priority to most people, despite the number of people who desperately need them.
If you lost your job tomorrow, you’d want to be assured that next month’s rent and utilities are covered. And that’s where having an emergency fund comes in.
Read on to learn how to quickly prepare an emergency fund…
What is an emergency fund?
An emergency fund is simply a lump sum of cash stashed away in case you’re blindsided by a worst case financial scenario.
These scenarios can include totaling your car, costly medical bills, or losing your job or primary stream of income.
The most common emergency fund size is about six to twelve months of living expenses. Typically, the higher your income and more stable your financial situation, the less money people have stashed away specifically as an emergency fund.
How much you save up is largely based on your lifestyle, job stability, and income, but the purpose of having an emergency fund is the same for everyone.
Quick review: An effective emergency fund should prevent you from going into debt and living paycheck to paycheck in the event of unexpected expenses.
Step 1: Figure out your monthly expenses and set a goal
The first step to building an emergency fund is setting realistic goals based on your expenses.
Your monthly expenses are what you spend each month to cover rent, mortgage, insurance, and other home necessities that keep you afloat.
The best course of action is to make a list of all your expenses to make sure you aren’t leaving anything out, and then adding it all together. It should look something like this:
- Rent: $1,200
- Utilities: $250
- Insurance: $300
- Groceries: $150
- Gas: $60
Total monthly expenses: $1,960
Once you’ve calculated your total monthly expenses, take this number and multiply it by the number of months you want saved in your emergency fund. For example, if your expenses are $1,960 and you want to save three months of expenses, your savings goal is going to be around $5,880.
Step 2: Aim to save a mini emergency fund of $1,000 immediately
If you have any debt, you should aim to save a mini emergency fund of $1,000 immediately.
This mini emergency fund should be able to help you pay for any car repairs or insurance deductibles if a disaster strikes. It’s also an amount that you can save quickly, believe it or not.
Pro tip: If you save $84 every week, you’ll hit $1000 in just 12 weeks!
While $1000 may not solve every emergency, it’s a lot better than nothing. Think of this mini emergency fund as a buffer to help with expenses that fall within that range such as rent or an insurance deductible.
Step 3: Pay down your debt
Review the interest rates of your debt (credit cards, car payments, and more) and focus on paying down your higher interest rate loans first.
Many experts recommend using the Avalanche Method for paying off debt. With this method, you list out your debts from highest interest rate to lowest interest rate.
Once you have all your debts listed in this order, set up an automatic payment for each one and pay the minimum. This ensures that you’re at least paying something on all of your debts and you’ll start making progress on all of your balances.
After you finish paying down the highest-interest-rate debt first, move on to the second highest and make the minimum payment on that debt. Continue this cycle until you’re completely debt-free.
The faster you pay off debts, the faster you can throw money towards your emergency fund.
Step 4: Create a monthly budget that supports your savings goals
Sticking to a budget is a guaranteed way to meet your savings goals.
If you list all of your monthly expenses and subtract them from your monthly take home pay, you can see what you have left over to save or pay your debts. If you have high or low interest debt, you should split this “leftover money” in half, putting 50% in your savings account and 50% towards your debt.
Another reason why budgeting helps is that you can see all your spending habits which allows you to cut out any unnecessary shopping trips or subscriptions you don’t need.
This cash could easily be going to debt payments or an emergency fund. Unfortunately, most people are likely spending their extra cash, which could be going directly into their emergency fund.
Step 5: Generate additional streams of income
If your budget is tight and you can’t seem to squeeze another dollar out of it, part-time work is a great way to supplement your savings. You’d be surprised how many places only need help on the weekends or a few nights a week. You could be bringing in an extra $100-$200 bucks per week with the right side gig.
Uber, Lyft, DoorDash, and Postmates are always hiring too, and with the surge of the gig economy, freelance and contractor work has never been more common on the internet.
And never forget the value of what you have in your house that you never use. Go through your closet or garage — you may find a gold mine of items you could sell for cash on OfferUp, Letgo, or eBay.
With a bit of determination and an open mind, you could save up $1,000 in just a single month.
Step 6: Store your emergency fund and don’t touch it
No matter where you store your emergency fund, it needs to be liquid, which means it needs to be easily accessible to you. Your emergency fund can’t be held up in real estate or a retirement savings account. The cash has to be somewhere you can withdraw it from at all times without penalty.
A regular savings account with your bank will do, but a checking account will also offer the same access, especially if you throw in a debit card. It’s highly recommended that you do not use the same accounts that you pay your bills with.
tldr; How to Prepare an Emergency Fund
Use these steps to effectively build your emergency fund so you don’t have to worry about the unexpected anymore.
Remember:
- Calculate your monthly expenses to set a savings goal.
- Save a mini emergency fund of $1,000 as soon as possible
- Pay down high-interest debt using the Avalanche Method
- Create a monthly budget to track your spending and extra cash you can stash away
- Generate new streams of income through part-time work, side hustles, and selling your old things
- Store your emergency fund somewhere accessible for emergencies only
Having a substantial savings is the first step to financial freedom and saying goodbye to living paycheck to paycheck.