How to Build the Perfect Emergency Fund
Guest post by Beth Kotz All kinds of unexpected life events can cause personal and financial hardship, making it prudent to establish an emergency fund that you can draw upon when necessary. An emergency fund is a sum of money that's set aside from ordinary, day-to-day finances and can be accessed quickly. You can use it to cover the cost of vital car repairs, replace broken home appliances, deal with a sudden drop in income, or remain solvent in the face of medical expenses. Here are a few strategies to begin building an emergency fund that will fit the unique needs and goals of your family. How Much Should I Save? Ideally, you'll have at least six months' living expenses saved up in your emergency fund. This includes rent, utility bills, the cost of groceries, and other payments that you must make if you want to avoid a serious breakdown in your day-to-day lifestyle. It's not necessary to cover the costs of cable television service, meals at restaurants, new electronic gadgets, or other luxuries. In the event of an emergency, you can easily do without these extras until you get yourself back on your feet. Now, you can't go immediately from having nothing in your emergency fund to having expenses for six months of living saved up. This is just not realistic. You'll have to build up slowly, setting reasonable goals along the way. Make your first target $250 or $500, a number that you can reach within a few months. Then once you hit that number, raise your target to a new figure. It's important to pick goals that are challenging yet attainable. Smart Saving - Automatically By automating the growth of your emergency fund, you can make it easier to keep money in your pocket until you accumulate the total amount you’re aiming for. Dedicate a separate savings account for your emergency fund, and then set your banking arrangements up to automatically transfer a certain amount per week to it. It's key that your emergency fund be held in a liquid and safe form. A savings account is best particularly if you can instantly transfer the money to a checking account with an attached debit card. You'll then be able to charge any emergency expenses on your card without trying to get by on checks and ATM withdrawals. As your emergency fund grows, you might wish to add higher-yield investments that can be converted to cash in a few days, like bonds and CDs. Beware though because you'll have to pay a penalty if you wind up withdrawing a CD before it matures. Slash Extra Spending If you're used to spending your money almost as rapidly as it flow in, then some changes to your spending habits are in order. Avoid pricey entertainments, and start eating at home more. Walk rather than driving if your destination isn't too far away. Consider using public transportation if at all practicable. Instead of splurging on a new wardrobe, Replace appealing second-hand clothing in thrift shops or on eBay. Credit card debt is one of the burdens that may make it difficult to amass an emergency fund. If you devote all your resources to paying off the cards, then you won't be able to build a fund. Conversely, if you set aside money for your emergency fund, then the amount you owe will start to accumulate because of the interest charged on your balances. Reduce Debt Obligations The best thing to do to tackle a mountain of debt is to first call your card issuers and request rate reductions. It may seem that your creditors have no incentive to let you pay less, but this is actually untrue because you have the leverage of being able to move your balance to another card with a lower interest rate. Then, direct your savings toward a small emergency fund of perhaps $1,000 or so. This will liberate you from the need to use your credit cards for any minor setbacks that occur. Finally, start paying down your debt, focusing on higher-interest balances first. Taking care of your credit card obligations is important because it will affect your credit score. Too low a credit score means that you'll have to pay more on future mortgages, car loans and other financial products, which will make your situation even worse. An emergency fund is instrumental in freeing yourself from money-related worries. Once you have such a fund in place, you'll be shielded from the uncertainty that often accompanies insufficient savings. You’ll benefit from this peace of mind not only if and when disaster strikes, but whenever you think ahead to whatever the future may hold. Beth Kotz is a contributing writer to Credit.com. She specializes in covering financial advice for female entrepreneurs, college students and recent graduates. She earned a BA in Communications and Media from DePaul University in Chicago, Illinois, where she continues to live and work.