It’s all well and good having enough money to live from day to day. However, none of us can safely say that we’re clairvoyant. Life happens at the most inopportune of moments, and more often than not, it’s going to end up costing you some money. That’s why it’s vital to have an emergency fund set up – just in case.
But how much money should you have in an emergency fund? What’s the best way to keep one – in a bank, or in a jar under the bed? Why do so many people turn to emergency funds and accounts? In this guide, we’ll explore the very basics of emergency funds, and why building your own is essential to becoming financially secure.
What is an Emergency Fund?
An emergency fund is money you put aside just in case you are met with a sudden bill that you need to pay. For example, your car may break down, you might lose your job, or you might even need to call for emergency help with a boiler or a whole host of other situations that can arise at any given moment. Unfortunately, you don’t have control over everything life throws at you. What’s more, a good insurance policy can only do so much.
But – why have an emergency fund if you’re already making enough money to cover the major bills? Simple. It’s peace of mind. There is an argument that you can have too much put aside for a rainy day, however, any saving is worthwhile doing. What is an emergency fund if not useful in a crisis? By dipping into your fund, you can save money which would otherwise be disappearing from your month’s income or worse going onto an expensive credit card.
How Much Should You Have In An Emergency Fund
Some sources suggest anything more than three times your monthly wage is a good start. This is all well and good – but if you have debt, saving anything at all isn’t always going to be easy. It’s not necessarily recommended, either! It’s therefore my advice to think about your own personal circumstances and make sure you are saving little, and often, where possible.
For example, people who run their own car will likely need to be saving more money than non-drivers. Cars can cost a pretty penny if anything goes wrong. That’s even if you’re fully insured! Over time, cars will need pieces and parts replacing. That’s upfront money you’ll need to find in a pinch. Not having access to a car could seriously impact on your ability to earn, too.
Think about your job security, too. Is your firm in good health? Will they be likely to support you for some time to come? If not, it’s time to start protecting your income, too.
Below, I’ve put together a list of potential factors you may wish to bear in mind when it comes to building your own emergency fund. Not all of it may apply to you, but it should give you a good idea of what to plan for.
What You Should Be Saving For
- Car expenses – if your car breaks down, you will be looking at variable costs. It’s safe to have over £1000 saved if you can.
- Home repairs and utilities – if your washing machine, boiler, fridge, cooker and more break down, you will be looking at hundreds lost. Try and account for £500+ at any one time.
- Technology – whether it’s a mobile phone, a laptop or a TV, when they break down, they start getting expensive. You may have facilities such as those covered by insurance, in which case, you’d simply need to pay an excess. However, I’d advise keeping £200+ by.
- Pets and children – both can be very unpredictable! New clothes for kids and vet visits for pets can really mount up the money. Around £500 at any one time should be a healthy amount to save.
- Loss of income – if your job isn’t particularly sturdy, try and save as much as you can. Ideally, saving a few months’ wages would be perfect – but that’s not always going to be possible. As mentioned, save little, and save often.
Where to Keep an Emergency Fund
Before you start saving the pennies, it’s worthwhile thinking about where you’re going to save your money. Should you use an ISA or a basic savings account? Should you tie everything up in investments, or assets?
The fact of the matter is, an emergency fund is there to be used with ease. Tying up emergency money in a high-interest account or stock portfolio is going to be tedious for you to have to work with should the worst actually occur. Therefore, you’re going to need to save your money somewhere safe, somewhere reputable, and somewhere that’s easy to access.
Think about a basic savings account with a reputable high street bank. People are always tempted to stash their emergency savings away in physical amounts at home. However, there is obviously going to be an added layer of protection when a bank gets involved. Look for an account, if you don’t have one already, which won’t penalise you if you want to withdraw.
Once you have saved up around 3 months of cash savings, you may wish to continue growing your emergency fund; but at the same time you probably do not want to incur too much of a returns drag either! There are some options for investing your emergency fund in the market which you may want to look at.
You’re Not in it to Make Money
While saving money requires us to, of course, make it, it’s worth bearing in mind that you shouldn’t be leading with looking into interest rates. You should be focusing on financial security first and cash returns second. An emergency fund is not going to be the best place to build up compound interest.
This is especially the case if it’s going to be an account that you may need to dip into every once in a while. Have your emergency savings on easy standby, but don’t focus on making money off it. If you’re wondering where to put your emergency fund, a great place to start will be to discuss options with your current bank.
How to Save an Emergency Fund
Now that we have covered the basics of emergency funds let’s take a look at getting one funded as soon as possible. Setting up an emergency fund may seem easy on the surface. Surely it’s just a case of putting a few pennies aside every so often, right? It’s not always going to be that simple. For example, if you’re on a limited income, and have plenty of everyday expenses lining up already, you might not be able to save each and every month.
However, what you can do is change some of your financial behaviour. Think about where you’re spending money on a regular basis. Can this be tightened up? Are there ways for you to make changes to the brands and products you use? I’ve already covered some of these points in other guides, but they are well worth making again.
In any case, let’s have a look at five ways you can quickly get started in building that important emergency funding pile.
Try and Pay Off Debt – As Quickly as Possible
Let’s get this out of the way. If you already have debt or arrears pressing into your income stream, you’re not going to be able to save a good stock of money right away, if at all. Paying down debt, as much as you possibly can, should be your first priority. This is a personal preference really and some well known financial experts will tell you to save an emergency fund of some description first then pay off your debts. If you feel like you do need some sort of emergency fund saved before you start to pay down your debt you could always just put aside £200 – £500 first.
Learning how to save an emergency fund starts with having a clean slate, or a level playing field. Regardless of metaphor, if you have urgent demands, focus on getting them cleared. Long term debt expectations such as student loan repayments may not be physically possible at this point. However, these are generally set up to gradually come out of your pay packet each month.
Pay down standing debts as quickly as you can. Instead of saving money in your emergency fund, get these demands settled. Once you have the creditors off your back, you can start saving money in an emergency pot.
Supplement Your Income
You may well have your everyday expenses covered by your income, but what about additional savings? Learning how to save an emergency fund starts with thinking smarter about where your money is going. If all of your standard income is getting swallowed up, it may be time to start looking at alternative income streams.
By this, I mean supplement your existing income. Think about doing one-off jobs or tasks. You could even take on a small, second job if you need to. There are lots of great opportunities for you to make extra cash online. You could work as a freelancer, you could take online surveys, or you could work an hour or two at the local shop each week. This extra money can be put into a savings pot for you to use at a later date.
Make Saving a Priority
Debt aside, you should be thinking about saving for your emergency fund as an absolutely critical process. So many people go through the motions and simply try and put away anything they can away at the end of a month’s spending. This just isn’t practical. For one thing, it means you could end up with much less than you anticipate. That’s not a healthy trend to be setting.
Instead, you should be looking at saving at the very start of a month. Set yourself a total, and stick to it. Work out exactly how much you need to live on, plus other expenses, and give yourself a comfortable margin for putting cash away. Even if it’s £50 per month, it’s a start! And you can only grow from there, providing you keep your spending in check.
Don’t Be Spend-Happy
When we receive a little extra cash, we might immediately think where we can spend it right away. New clothes, gadgets, a trip away – let’s stop things right there. The most intelligent course of action to take with any extra money coming in is to save it. This should especially be the case if you are trying to save for an emergency fund.
Had a big win on the lottery? Got a nice cheque from a relative for your birthday? Stash it. It’s going to be really appealing to spend it on something nice for yourself or your partner, or your family. But if you’re in the process of saving, this should be taking over the spend factor. This might be fairly hard for you to adjust to at first, however, millions of people manage it.
Think About Change
I’ve mentioned looking after pennies already, but this time, I mean it literally. It’s always tempting to try and get rid of change as quickly as possible. But this is another behaviour I think is well worth changing (no pun intended).
Big emergency funds start from the smallest of investments. This should especially be the case if you have a relatively low or tight income, or have debts to pay off. If you have to break into a note, make sure you save the money you get back. You might have a system for copper coins or denominations under £1, for example. However this works best for you, saving change could be the leg-up you need to start getting your savings off the ground.
When to Use Your Emergency Fund
Now that we’ve looked at how to save an emergency fund in a little detail, it’s time to start thinking about what it should and shouldn’t be used on. The clue, ultimately, is in the name. An emergency fund is something you should only ever tap into or fall back on when you absolutely have to. When there is absolutely no other funding option available, use your emergency fund to help yourself out of a bind.
However, plenty of us dip in when we shouldn’t. Let’s take a look at a few scenarios where you might want to use your emergency cash, and a handful when you absolutely shouldn’t.
Car and Vehicle Breakdowns
Yes, our vehicles get us from A to B. But what do we do when they break down? You could be the most careful driver in Britain and still find your fan belts or windscreen wipers playing up. It’s essential that all car and other vehicle problems get fixed as a priority. It’s a matter of safety, not just of legality.
Therefore, yes – you should absolutely use your emergency fund to help pay for vehicle repairs. These can often be very expensive! That goes for simple problems, too, such as tyre flats.
Whether you’re covered by home insurance or not, your property is still going to create some serious funding headaches for you if you’re ill-prepared. What if your boiler breaks down in the middle of winter? What if you need to get leaky pipes repaired?
While you might get away with covering some expenses with a basic insurance excess, other things are going to need extra cash. It’s a very good idea to have a stock of money available in case this is ever the case.
While most medical care in the UK should be covered by the NHS to some extent, there will be some treatments which incur fees. There will also be cases where you have to pay for certain types of treatment. Dental care, for example, is chargeable on a sliding scale. If you or a member of your family is suffering with painful teeth or other problems, it makes sense to use your emergency fund to help speed things along.
Let’s also throw pets into the mix. Not everyone has pet insurance, which means that paying out for the odd vet trip can be a hefty expense. You may even be charged just for someone to take a cursory look at your cat or dog. When you start getting into the extra treatments, it’s money you might not have to hand. Use your emergency fund!
We never really know what life is going to throw at us, and for that reason, it’s always worth having some money put aside in case you need to get somewhere at short notice. You may need to spend money you don’t have on planes, trains or automobiles. One of the key things to remember when learning how to save an emergency fund is that anything could pop up at the last moment.
Need to help a friend or family member stranded overseas? Found yourself far from home and need some emergency cash to get yourself back on the road again? That’s where your emergency fund will come in handy.
When NOT to Use Your Emergency Fund
DON’T USE IT FOR: Holidays
Ok – we all deserve a holiday every now and again. However, blowing your emergency fund on a trip away is hardly responsible. If you have enough money coming in, or are enterprising enough with your income streams, try and save up with an alternative pot for holidays and breaks.
DON’T USE IT FOR: New Furniture
Furniture and household items can be very expensive. However, replacing a perfectly serviceable sofa or dining room table is not an emergency. It’s something which you should either save up for, or buy on credit if your file and income streams allow it.
repair and replacement should be considered if a life is at
DON’T USE IT FOR: Birthday and/or Christmas Presents
Christmas and birthdays can cost a lot of money. However, it’s important you set expectations, or at least have a token fund or amount put aside to pay for gifts. Present and card-buying is not, however, an emergency scenario. Ultimately, if you can’t afford to buy someone what they want for their birthday, think creatively. Can you give them an IOU, or can you buy something a little more within your price range?
My Financial Emergency Plan
It’s never fun to talk about what your life would look like if you encounter a major emergency, but nevertheless, it’s important to have a rough plan in mind. Here’s what my emergency fund looks like and the plan in case I have to rely on it.
My Emergency Fund
I have structured my emergency fund in to two buckets: pure cash and easily liquidated assets.
- Cash: My cash holdings are sufficient to cover about 4 months of expenses. The cash is held in mostly savings accounts and fixed deposits to maximize the return and reduce their value erosion through inflation.
- Liquid holdings: I own some physical gold and silver bars, which at today’s value would be equivalent to another 3 months of expenses. I own these for two reasons: commodities help to protect you in an inflationary environment better than cash; and in the event of a catastrophic global emergency, their value would be increase significantly, thereby providing some immediate fall back option.
Emergency: Job Loss
In the event of an emergency, such as a job loss, I plan to use my reserves in the following order:
- Use cash to fund 4 months of expenses
- Months 4 to 12: Sell down a mix of gold/silver + liquidate some stock portfolio
- 12-18 months: Sell vehicle and continue to selectively liquidate stock portfolio
- Beyond 18 months: Take a loan against the home, or borrow through a line of credit + continue liquidation of stock portfolio
Of course it goes without saying that in the event of an extend unemployment scenario, our family would cut expenses while also try and find any other alternate means of employment.
It’s also important to note that plan of liquidating my stock portfolio really depends on what’s going on in the stock market at the time. Ideally if the market is doing well, liquidating my portfolio will not be a tough decision. However, if the markets are not doing well, I may liquidate only a little, while falling back to other options such as selling my vehicle (I can always buy a cheaper one or use public transit) or taking a small loan against the equity in my home.
One important major safety factor which I have not built in to my calculations is any cash severance I might receive if I were fired or the income from JSA (equivalent to the Unemployment Insurance in the US). Both would go a long way in extending the timeline of my emergency fund.
Emergency: Major Expense
In the event of a major expense such as car accident, home repair expense, medical expense, or other issue, I would work down my emergency fund in the same order as described in the above situation. Start with cash, and gradually work my way up through the portfolio
Emergency: Major Disability or Death
I have long-term disability insurance through my employer and also personal supplemental coverage. I have also purchased term-life insurance which will payout to my family in case of my death. That coverage should be sufficient to continue funding my family’s middle-class lifestyle for the future.
We’ve looked at how to save an emergency fund, and when to use your emergency fund. But doing so in practice can be difficult. However, the same facts ring true. Focus on saving small amounts, when you can, and do try to fight back against the temptation to spend.
By changing a few of your financial habits, you may find saving for your emergency fund that little bit easier. You don’t have to be earning a lot to make a start. What you will have to do, however, is be willing to make a few changes.
You never know when you might need an extra stock of money to pay for something unexpected. If and when that opportunity ever arises, you’ll be glad that you had a pot there to fall back on. Try and pay off any debts – but otherwise, save little, and often.