In general, most people should maintain at least three to six months of essential expenses in an emergency fund. This cushion can help keep you on stable financial ground and avoid potential debt when something unexpected happens.
However, determining how much money to keep in an emergency fund isn’t as simple as picking a random number. The amount of money in your emergency fund will vary depending on your lifestyle, the risks you take with your money and how safe you feel about your income stability. We will go through each factor listed in a different order than what you might expect.
Your engine won’t start, your furnace unexpectedly stops working in the middle of winter, or your income suddenly stops due to losing your job or hours being reduced.
All of these unexpected events can push many consumers directly into credit card debt without any personal savings to rely on. Once this cycle begins, it can take anywhere from a few months to years before you have paid off the accumulated debt.
This is why having an emergency fund is very helpful to individuals.
The initial amount to put into this fund is based on just one piece of information—your essential monthly expenses; not all of your monthly expenses, just the necessary expenses involved in managing a household.
Here are some examples of essential monthly expenses to include in this calculation:
- Housing (i.e., rent or mortgage)
- Utilities
- Groceries
- Insurance
- Transportation costs
Non-essential items such as entertainment subscriptions or new clothes would generally not be included in this calculation, as they can typically be paused during a financial emergency.
Consider your essential monthly expenses to be:
- Rent or mortgage = $1,000
- Utilities = $100
- Groceries = $400
- Insurance = $200
In total your essential or core monthly expenses equal $1,700.
This number will be your base for calculating the recommended amount of emergency savings to maintain.
Next is the multiplier basis for determining how many months’ worth of essential monthly expenses to save.
Financial planners typically recommend maintaining an emergency savings fund equal to approximately three to six months of essential, core monthly expenses. Three to six months is only a general guideline, and the best answer for how many months will be determined by your current living situation and financial scenario.
For example, someone who has a steady job with a reliable paycheck might feel comfortable only needing three months of savings for emergencies. However, a person who works as (example) a freelance worker, where income can fluctuate greatly from month-to-month, may require as much as six months of emergency savings.
Some additional factors that could impact how long of an emergency savings account to establish would include if your car is particularly old and has had repairs in the past that might create added stress if large bills appear unexpectedly.
Due to the heavy financial strain of occurrences like replacing roofs or air conditioning systems, homeowners will normally wish to have additional savings set aside.
While renters do not always face similar large maintenance bills, it could help allow them to keep a smaller cushion for emergencies.
With the total monthly expenses determined and identifying how much cushion you wish to maintain will make the math very simple.
For example, if you have determined that your essential monthly costs are $1,700, your emergency fund totals will be:
- three months of emergency funds will equal $5,100
- six months of emergency funds will equal $10,200
This fund will serve as a shock absorber for your financial well-being in an unpredictable world.
One concept that is easily missed when you think about your emergency funds is that they are designed to evolve over time.
Your income, expenses, and responsibilities continue to change, and nesting your emergency savings is a wise decision from time to time.
When your total monthly expenses increase, you should also grow the size of your emergency cushion.
Once your financial situation changes for the better (i.e., if you go from being self-employed to having received an offer for a permanent position), you may want to decrease your emergency fund and use the funds accordingly for saving or investing.
The main purpose of an emergency fund is straightforward — to provide you with a financial safety net.
An emergency fund is meant to help you stay calm when something goes wrong — rather than freak out over something unexpected (e.g., having to replace a broken appliance), you will already have an established method of dealing with that type of situation.
When something unexpected happens to your finances, the result does not need to be catastrophic, so having a plan allows you to look at that instance as an annoyance rather than as a potential financial disaster.
Therefore, sometimes the value of your peace of mind may actually exceed the actual monetary value that the funds in the account offer.
