Living in a society which encourages spending, it can be difficult to remember the power of having savings. Cash, however, creates opportunities that spending never can. An emergency cash fund is simply a savings account, and having one in the appropriate amount will change your life for the better. When something unexpected comes up, your emergency fund protects your other long-term investments.
You use your emergency funds so you don't have to withdraw from a retirement account (like a 401(k) or IRA) and pay early withdrawal penalty taxes, or so you don't have to sell long-term investments (like stock index funds or bond mutual funds) at a bad time.
Also, cash puts you in a position to buy when everyone else wants to sell, allowing you to make money in good and bad times. For this very reason, we encourage people to have an "opportunity fund" as well as an emergency fund. The opportunity fund is cash set aside that you can use to invest during bad times in the real estate or stock markets. First, you have to build up your emergency fund.
How Much You Should Have in an Emergency Cash Fund
Good
At a minimum, you should have three months of living expenses in your emergency fund. This means if you need $3,000 a month to cover your basic needs like your mortgage or rent, utilities, gas, and food, then you need $9,000 in your emergency fund.
Better
If you have people who depend on you financially, like children or a spouse, your emergency fund should be six months' worth of living expenses, at a minimum. In addition, if you work in a career that has high turnover or a high injury rate, you'll want to have double the amount of emergency fund as someone who works in a tenured career where layoffs rarely occur.
Best
As you get better at saving, work toward accumulating 12 months of living expenses in a savings account. If you're a high wage earner go for the $100,000 challenge: Get $100,000 of savings parked in a safe investment. Too many high wage earners feel the need to invest everything—which leaves them no liquid assets left over for emergencies or opportunities.
Where You Should Invest Your Emergency Cash Fund
Where should you invest your cash reserves? In a safe, easily accessible account. Not in stocks. Not in something that has withdrawal penalties or big tax consequences for cashing it in. InMaking Safe Investments, we cover six rules to use on investing safely. The key is your emergency fund should be in something low-risk.
Getting Motivated to Save
If you need some motivation to save a bit more, print the top 10 reasons list below and tape it to your refrigerator door, put a copy on your desk at work, or keep it in your car.
Read it frequently, until you can feel the power of cash—until saving feels better and more powerful than spending.
Top 10 Reasons to Have an Emergency CashFund
- Protects your family in case of a job loss
- Provides reserves for health or other family emergencies
- Gives you the ability to pursue attractive investment opportunities as they come along
- Helps you negotiate lower prices on major purchases
- Keeps you from losing money since you won’t need to sell other investments during down markets
- Allows you to avoid tax penalties from having to pull money out of retirement accounts too early
- Reduces stress, which increases health and well being
- Eliminates numerous marital arguments
- Creates a cushion to use for major household repairs
- Enables you to pursue bargain buying at someone else’s expense (someone who desperately needs cash)
The Need for Having an Emergency Cash Fund Once Retired
Once retired, if you are over age 59 1/2 you can withdraw from IRAs, 401(k)s, 403(b)s and other types of retirement accounts; any withdrawal is subject to income taxes, but not penalty taxes. Many people think that since they can withdraw at will, they no longer need an emergency fund. This is not true.
Hopefully, you've drafted a thorough retirement budget, but invariably you will be missing some expense items—and emergencies will still happen. A common unforeseen expense we see occur in retirement is when someone's adult child has an emergency, with 82% of parents saying that they would "make a major financial sacrifice for their adult child."
Even in retirement, you'll want funds that you didn't include as part of your official retirement plan, and you'll want them set aside in cash, just in case. Building up this type of cash reserve account is one of the five steps you'll want to take within five years of retirement.
FAQs
While you're working, we recommend you set aside at least $1,000 for emergencies to start and then build up to an amount that can cover three to six months of expenses. When you've retired, consider a cash reserve that might help cover one to two years of spending needs.
How much money should you have in your emergency reserve fund? ›
While the size of your emergency fund will vary depending on your lifestyle, monthly costs, income, and dependents, the rule of thumb is to put away at least three to six months' worth of expenses.
How much should I keep in cash reserves? ›
For the emergency stash, most financial experts set an ambitious goal at the equivalent of six months of income. A regular savings account is "liquid." That is, your money is safe and you can access it at any time without a penalty and with no risk of a loss of your principal.
How much cash should you carry for an emergency? ›
For example, if you estimate $30 would be the minimum amount of money you would need, and you think five days is the right amount to plan for, you would have a comfortable baseline of $150 for your emergency preparedness reserve.
What should the amount you should consider keeping in an emergency fund cover? ›
While experts generally recommend building an emergency fund equal to three to six months' worth of expenses, this is only a guideline. Calculating your personal emergency savings goal requires having a clear picture of your financial situation.
How much should you have in emergency reserves? ›
While you're working, we recommend you set aside at least $1,000 for emergencies to start and then build up to an amount that can cover three to six months of expenses. When you've retired, consider a cash reserve that might help cover one to two years of spending needs.
How much emergency fund is enough? ›
The general rule is to save at least three to six months' worth of expenses for your emergency fund. This is just a guide amount and a good starting point for most individuals.
What is a healthy cash reserve? ›
Maintaining a healthy cash reserve of at least six months' — and ideally one to three years'— worth of your living expenses can provide a cushion in case of an emergency and put you on track for long-term fiscal stability.
How much cash can you keep at home legally in the US? ›
The government has no regulations on the amount of money you can legally keep in your house or even the amount of money you can legally own overall. Just, the problem with keeping so much money in one place (likely in the form of cash) — it's very vulnerable to being lost.
What is a good amount of cash to have saved? ›
Emergency funds are designed to hold money that can be used to cover unexpected or unplanned expenses. A long-standing rule of thumb for emergency funds is to set aside three to six months' worth of expenses. So, if your monthly expenses are $3,000, you'd need an emergency fund of $9,000 to $18,000 following this rule.
“We would recommend between $100 to $300 of cash in your wallet, but also having a reserve of $1,000 or so in a safe at home,” Anderson says. Depending on your spending habits, a couple hundred dollars may be more than enough for your daily expenses or not enough.
Where is the safest place to keep cash at home? ›
Where to safely keep cash at home. Just like any other piece of paper, cash can get lost, wet or burned. Consider buying a fireproof and waterproof safe for your home. It's also useful for storing other valuables in your home such as jewelry and important personal documents.
Should I keep cash for emergency? ›
Financial advisors recommend keeping physical cash at home in the event of an emergency or natural disaster.
How much money should you have in an emergency fund quizlet? ›
Your goal is to have an emergency fund of 4 times your monthly living expenses.
What should a fully funded emergency fund be? ›
Fully funded emergency fund: Once that debt's gone, you need a fully funded emergency fund of 3–6 months of expenses. (This follows the 7 Baby Steps, the proven plan for getting out of debt and building wealth that my fellow Ramsey Personalities and I really break down in Financial Peace University.)
What is the emergency fund ratio? ›
Emergency fund ratio or liquidity ratio is a personal finance ratio that measures the ability of a household to meet expenses out of the assets that can be easily converted into cash. 2. It is computed by dividing the total liquid assets of the household by the total monthly expenses of the household.
Is $20000 too much for an emergency fund? ›
While $20,000 may be more than what many Americans have in savings, it's not guaranteed to be an adequate emergency fund for you. Your emergency fund should be set up to cover at least three full months of essential bills. If your monthly expenses are high, you may need to save more than $20,000.
Is $10,000 too much for an emergency fund? ›
Those include things like rent or mortgage payments, utilities, healthcare expenses, and food. If your monthly essentials come to $2,500 a month, and you're comfortable with a four-month emergency fund, then you should be set with a $10,000 savings account balance.
How much should I keep in reserve fund? ›
A good rule of thumb is for Reserves to be funded at 70% or higher of the property's calculated deterioration.
Is $5,000 enough for emergency fund? ›
Saving $5,000 in an emergency fund can be enough for some people, but it is unlikely sufficient for a family. The amount you need in your emergency fund depends on your unique financial situation.
