How Much Do I Need in an Emergency Fund?

This is the third post in the series on emergency funds.
First post: What’s an Emergency Fund?
Previous post: How do I set up an emergency fund?

So just how much does someone need to keep in an emergency fund?  This is where the debate usually starts. There are many answers to this question and answers range from almost nothing (for now) all the way to a full year’s worth of expenses. To begin finding your own number start with whether you currently carry any high interest debt like credit cards or payday loans. If you do have such debt, it’s recommended that you should have at least one thousand dollars set aside before you even begin to tackle paying down your debts.  This will provide you enough cushion to cover minor surprises and hopefully keep you from having to pay overdraft or similar late fees.

Depending on how much life you have to support it may make sense to build up even more of a fund before attacking your debts.  For example, if you are a single renter without children and have a fairly stead job, then a thousand dollars might be plenty.  If instead you have a family to support, don’t get along with your boss, and have a mortgage to pay, you should consider saving five or even ten thousand dollars before turning your focus to debt repayment.

Note: Keeping extra cash instead of paying down debts is of particularly high importance if your credit is maxed out.  If you still have credit remaining, and are sure that will not change soon, then paying down your balance will make more sense as you can  (worst case) borrow the money back again if needed.

Once your debt has become more manageable, or if you do not have any high interest debt, then the goal is to build up a properly sized emergency fund.  What’s the right size for you?  That will depend on several factors.

How stable is your job or income?
Laid Off
Should I have seen this coming?

Emergency funds are often thought of as only covering unexpected expenses that arise in life.  But losing one’s job is the worst kind of expense – the one that kills your income.  If you have nothing coming in for the month even small expected expenses can feel like an emergency very quickly. Without a proper amount of money set aside to cover all your bills in such an event you may quickly find yourself relying on credit cards, family, pay day loans or worse to get by until you find new employment.

As such, your job is likely the largest single factor effecting how much you will need in an emergency fund.  It may also be the one that determines how often you need to tap into your fund.  After all, if you seem to be the first laid off or for any other reason are often without work, then you will be touching these savings more than someone who is never out of work.  There’s no judgement or shame in this, it’s just the way it is. So, is your job or department stable?  Is the company you work for hemorrhaging money?  Do you trust your pension to last? Only you know these answers.

How much do you have available from other sources?

While the emergency fund is designed to cover unexpected expenses or lack of income for a time, there is a limit.  At some point a cost might arise that is simply too large.  Perhaps your home gets hit by a tornado and the insurance settlement isn’t coming for a long time.  Or perhaps you’re out of work for two years.  There’s all sorts of situations where even a year’s worth of expenses won’t suffice.  In this case you may have to dip into other sources. What counts as another source?  Just about anything you can legally get your hands on, but let’s list out some obvious answers.

  • Stocks, Bonds, Mutual Funds in taxable accounts
  • IRAs
  • 401k
  • Property (home, land, cars, boats, etc)
  • Personal/Family loans
  • Credit Cards
Money Tree
It’s no Ticket Oak, but it’ll do in a pinch

If you have a million dollars in bonds that you can sell without much penalty then you can err on the lower side with your emergency fund.  If, however, you have no credit, investments, retirement savings or friends then you should try to build that emergency fund up as high as you can, and only after you hit a year’s worth of expenses think about moving excess funds into investments.

Can an Emergency Fund be too big?

Yes.  At some point beyond maybe a year’s worth of expenses you are actually working against yourself.  By keeping such a large amount of money basically as cash you are missing out on the ability to earn higher rates of interest on the extra money.

Example: Sally spends  $35,000 a year (rent, car payments, food, clothes, etc) and has $50,000 a year in her emergency fund.  Unless Sally expects to get fired tomorrow or there’s a hurricane bearing down on her, she would probably be better off taking a good chunk of that money and putting it into something like a retirement account or other investment that will pay more than the low interest her emergency fund is earning her.  The odds of Sally needing all $50,000 soon is much less than the odds of Sally needing that money to grow over time to help her later on in life.

So what’s my number? How much do I need in an Emergency Fund?

If you’re looking for a single answer on how many dollars or month’s of expenses to keep in your emergency fund you won’t find it here.  Just like most matters of personal finance this too is personal. Without knowing how much debt someone has, and what kind and at what rate, it’s hard to specify when someone should be paying down the debt versus building up their emergency fund. Without knowing how stable your job, company, industry, economy is we cannot venture a guess at how likely it is you’ll need to dip into your savings.  Without knowing how much other money, or investments, or Van Goghs you have in the attic it’s hard to say if whatever amount you choose is enough.

If you’ve read through this far then you have all of the tools you need to figure this number out for yourself.  Keep in mind that this number is not fixed either.  It may make sense for you to have $X in an emergency fund until you pay off your credit cards and then switch to $Y.  You may even lessen the amount you need you keep if your spouse gets a better job, or you come into an inheritance.

So do not worry about finding the right number for everyone else, always – find the right number for you, now.

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