Create an Emergency Fund
You’ve probably heard this one before, but let’s bring some reality to the topic of creating an emergency fund.
An emergency fund is simply a pile of cash that we keep safe and available in case we need it.
Think of what a true financial emergency would be for you and make this something that is probable, not simply possible. If we try to plan for everything that is possible, we will quickly become paralyzed and unable to do anything. Instead, we focus on the probable.
So, for you, what is the thing that could probably happen that would create a financial emergency?
For most people, it’s losing their job
Let’s stick with this scenario for a moment. If you lose your job, it’s likely not because of something you did but rather because the environment has changed. Either your company is suddenly facing hard times or perhaps your entire industry or the entire economy is having trouble.
How much should be in your emergency fund?
In that situation, where the entire economy is in bad shape, including your industry, how long would it take for you to get another job with approximately the same income?
For most people, the answer seems to be between six and twelve months. Whatever the time frame is for you, we need to set aside that many months of expenses in our emergency fund.
Where should you keep your emergency fund?
Well, because we must have access to it since we never know when an emergency could happen, likely the best place is simply a bank savings account. If your bank savings account is connected to your checking, then you know you can move money over and use it almost immediately. That’s what we want.
Notice, we are not interested in earning a return on our emergency fund. Whatever we get will be fine. Those funds have one job, and it is not to grow.
The job of your emergency fund is simply to be available when you need it.