Size Matters For Emergency Funds

By Staff

A solid emergency fund is the foundation of any solid financial plan.  Having a little tucked away for rainy days puts some distance between you and the ledge of a financial cliff that could give way at any moment–usually from broken appliances, car repairs or major medical issues.  Most financial planners advise people to have about 3-6 months worth of expenses saved in money designated for emergencies only.  However, over the years I’ve found this 3-6 month rule to be too arbitrary, because there are a variety of factors to consider when deciding how large to grow your own emergency fund.

Emergency Savings:  Just Starting Out

Dave Ramsey’s plan calls this first phase of savings the “baby emergency fund.” It is represented by $1,000 in a savings account.  This first $1,000 in savings is the first of seven financial baby steps recommended by Ramsey, but over the years of putting his plan in action we’ve found this amount to be too low.  $3,000 is actually a better amount for our family, and we arrived at this number rather unscientifically by floating an amount that made both me and my wife comfortable.  Not unlike most couples, our emergency savings balance represents a “middle ground” that we both compromised to reach because of our differing degrees of risk we were willing to take on.  We have our emergency fund stashed away in an ING Direct high yield online savings account.

Men Are From Mars

My wife is more conservative than I am when it comes to the amount of risk she is willing to accept.  I am on the opposite end of the scale, opting to take on more risk for the opportunity for a larger reward.  Our differences are not unlike most married couples, where one spouse helps balance out the personality of the other.  I agreed with her that the $1,000 baby emergency fund seemed a little low, and thought we should double it.  She thought $5,000 sounded good to her.  We met in the middle (almost) and settled on $3,000.

How Large Should Your Emergency Fund Be?

I mentioned in the opening that there was no magic formula for calculating how much should be in your initial emergency fund.  But if I were attempting to devise such a formula it would probably look something like this:

  • $500 per Spouse
  • $500 per Child
  • $1,000 Extra for Single-Income Families

Following this formula we arrived at the $3,000 amount for our family.  If my wife worked outside the home, we could probably live with a $2,000 beginner emergency fund, because if I became unemployed we would still have her income to fall back on.

A Fully-Funded Emergency Fund

Once you are completely debt free I recommend saving a fully-funded emergency fund which represents 6-12 months of living expenses.  For most families this would probably look like $10,000-$15,000.  Remember, in a real emergency this amount would only be used to pay for basic expenses.  Mortgages, car payments, food and basic utilities should be included in this calculation.  Your Netflix membership and cable bill could be canceled or put on hold in a pinch.  To the savvy investor $15,000 may sound like an exorbitant amount of cash to keep on the sidelines, but just imagine the peace you would feel knowing you had $15,000, or even $20,000, just sitting there in case of emergency.