Emergencies and Their Expenses
An emergency fund is a proactive financial buffer against most emergencies you will face in your lifetime. Its purpose is to provide you with enough money to manage a financial emergency and its aftermath. The estimated average costs of some emergencies according to government and insurance data are:
- Natural disasters ($4,500–$27,000)
- Losing a job ($28,000)
- Major car repair ($750)
- Medical emergency ($1,300)
- Family emergency ($10,800)
When emergencies strike, expenses still need to be paid. These expenses include:
The inability to pay for these necessary expenses can make a bad situation worse.
How Do You Set Up An Emergency Fund?
Before starting an emergency fund, commit to creating the emergency fund and not investing those funds. It may feel uncomfortable to leave possibly tens of thousands of dollars in a savings account, but the emergency fund’s purpose is to protect you, not to make money.
The criteria for an emergency fund:
- Easy to access funds
- Funds can be withdrawn or spent in a matter of minutes, not days
- It consists of cash, not investments
- It is safe
An emergency fund is typically a savings account through an FDIC-insured bank or federally insured credit union.
How Much Should You Have in Your Emergency Fund?
This answer is different for everyone because we all have different lifestyles and financial situations.
Aim to save roughly three to six months of your expenses. If your household has two incomes, a three-month emergency fund may be sufficient. If one person cannot work, the three-month emergency fund plus the other person’s income should support the household. Likewise, a single person or a household with one working adult will typically need a larger emergency fund of six months of expenses.
If you are more susceptible to emergencies or more concerned about being unprepared financially for an emergency, increasing the emergency fund to more than six months is perfectly acceptable.
It is always better to have an overfunded emergency fund than an underfunded emergency fund.
Make Your Emergency Fund a Top Priority
One of the best ways to succeed financially is to avoid financial disaster. Saving at least three months of expenses as quickly as possible should be the first thing you do, even though this may be difficult. Being a financially savvy young lawyer will pay dividends in the future.
How Can You Fund an Emergency Fund?
You should save and invest 15–20 percent of your paychecks. If you have an employer-provided retirement plan like a 401(k), you should contribute enough to receive the full employer match. The rest should go toward the emergency fund. Follow this strategy until you reach your three-to-six-month emergency fund goal. Once the emergency fund is adequate, you do not have to contribute more and can begin investing and saving for more exciting things like a car or a down payment on a home.
The emergency fund is a critical component of your financial life. Without an adequate emergency fund, financial insecurity can affect your work performance, relationships, and the ability to achieve future personal and professional goals.