Suppose Tom has the following (post-tax, not including contributions to retirement) expenses: $1500 in rent, $400 in groceries, $200 in utilities, $300 in transportation, $400 in healthcare costs, $385 in student loans, and $100 in miscellaneous household expenses, plus some extra expenses: investing in his retirement, going out with his friends and his girlfriend, saving for a house, giving to charity, and some subscriptions.
The things Tom needs each month are the things I’ve attached prices to: rent, food, his car, gas, light, heat, A/C, the internet, his health insurance premiums, doctor visits and any associated care, household expenses, and paying back his student loans from his bachelor’s degree. The other things are things Tom certainly likes to have in his life but doesn’t need, and their prices are much more flexible month to month: his wants. In case Tom loses his job or gets in a car accident and needs to buy a new car right away, or has some other catastrophes happen in his life, he needs a cushion that allows him to meet his basic needs (forgoing paid luxuries) from his savings, even if he has no job providing him with the income through which he would normally pay for those necessities.
The general recommendation is that you save 3 to 6 months of your needs in a dedicated emergency fund. Let’s say Tom chooses a middle-of-the-road approach and builds a 4-month fund. The total monthly expenses for Tom’s needs are $3285 as listed above, so a 4-month emergency fund should have at least $13,140. Tom should be okay with anywhere from a $9,855 emergency fund (which would cover 3 months of Tom’s needs) to a $19,710 emergency fund (which would cover 6 months).
Everyone should have an emergency fund, which is only to be withdrawn from in case of a true emergency. Too many people mistake a plain old savings account—from which you can pay for a trip to see your friend who lives a 3-hour-plane ride away, or for your new video game system you’ve been saving up for—with a true emergency fund. It is critical to understand that these do not serve the same purpose, even though it is very likely that both are savings accounts.
If you have an emergency fund that covers several months of your expenses, you’re better off than an alarmingly large number of Americans—research conducted by people who have much better financial credentials than I do says that more than 1/3 of adults can’t cover an unexpected expense of $400 or more because they don't have an adequate emergency fund from which to pull the cash to fix their car or make a home repair, or whatever their unexpected expense might be.
The general recommendation is that you save 3 to 6 months of your needs in a dedicated emergency fund. Let’s say Tom chooses a middle-of-the-road approach and builds a 4-month fund. The total monthly expenses for Tom’s needs are $3285 as listed above, so a 4-month emergency fund should have at least $13,140. Tom should be okay with anywhere from a $9,855 emergency fund (which would cover 3 months of Tom’s needs) to a $19,710 emergency fund (which would cover 6 months).
Everyone should have an emergency fund, which is only to be withdrawn from in case of a true emergency. Too many people mistake a plain old savings account—from which you can pay for a trip to see your friend who lives a 3-hour-plane ride away, or for your new video game system you’ve been saving up for—with a true emergency fund. It is critical to understand that these do not serve the same purpose, even though it is very likely that both are savings accounts.
If you have an emergency fund that covers several months of your expenses, you’re better off than an alarmingly large number of Americans—research conducted by people who have much better financial credentials than I do says that more than 1/3 of adults can’t cover an unexpected expense of $400 or more because they don't have an adequate emergency fund from which to pull the cash to fix their car or make a home repair, or whatever their unexpected expense might be.
Comments
Post a Comment