How to Build Your Emergency Fund
How to build your emergency fund in less than 12 months
Most financial advisors and anyone who claims they are an expert in personal finance will tell you about the importance of an emergency fund.
What is an emergency fund?
An emergency fund is money that you have saved specifically for an emergency. Most financial advisors recommend that you have 6-12 months of your normal expenses saved in your emergency fund to cover you in the case of an emergency.
What do you use an emergency fund on?
When you build up your emergency fund, you want to make sure you reserve those funds for emergencies. This fund should not be used for a vacation, a new car, or a wedding. It should truly be reserved for emergencies.
People use their emergency fund to cover their expenses in the case of an emergency. This could include:
An unexpected job loss or reduction of hours impacting your pay
Emergency medical expenses
Car repairs from a car accident
A lot of people know they need to have an emergency fund, because emergencies happen, but they don’t know how to build up their emergency fund. Well, you should know, it’s not as hard as you may think. It just requires some planning and a few behavioral changes along the way.
Take this example of a family of 4 who I helped coach through building their emergency fund this year.
Car gas: $200
Cell phone: $100
Total: $2,825 per month
To build an emergency fund of 6 months of expenses, this family needed to save $16,950.
I know this seems like a lot. If you’re living paycheck to paycheck, any amount of saving could seem out of reach for you. But remember, even saving just a little of your income every week could help you along the way and provide some financial security.
So how did they do it?
The keys to building your emergency fund are managing cash flow and saving any additional income you receive.
1. Managing cash flow
In order to successfully manage your cash flow, you have to make a plan and stick to it. The best way to make this plan is to take an inventory of all of your expenses for the past 2 months. See where there are opportunities to cut out or minimize any of your expenses. Do you eat our for lunch everyday? Do you get a cup of Starbucks every morning? Do you splurge on Amazon or in Target just because? See if you can identify any areas were you can cut back for 6 months or a year, for a chance to build up your savings.
Another idea to manage your cash flow is by talking to your utility companies and setting up an equal payment plan. In these plans, the utility company will take the average bill from the past 12-18 months, and that is the amount you will get billed each month, regardless of your actual utility consumption. This is not an opportunity for you to just consume as much electricity or water as you want, because there will be a true-up at the end of the year, but it could help you balance the cash you spend each month and help you stick to your budget.
This strategy isn’t only for utility companies. You could also call other creditors to see if they are able to help you with a payment plan, so that you have consistent monthly payments, to help you stick to your budget.
2. Saving any additional income you receive
This is especially important when you are trying to build your emergency fund. If you get a bonus from work or even a tax refund check, save 100% of this extra income. Since this is pretty unexpected, you should not have included this in your budget for the month/year. So this could go a long way to helping you build up your emergency fund.
You can also get extra income by picking up extra hours at work or by getting another job all together. I know this doesn’t work for everyone, due to family schedules and other commitments, but if you have the flexibility to work a little more, saving all of this additional income will also help you build your emergency fund faster.
So, how did the couple from my example save the $16,950 they needed for their emergency fund?
On the cash flow side, they found that they were spending $425 a month eating out. They decided not to eat out at all until they were trying to build their emergency fund. While they did increase their grocery budget by $50 per month to cover the food they were eating at home instead of at restaurants, they were still able to save $375 per month, just from this change.
They also cut out cable. Their cable bill was $167 per month! They downgraded their plan to only internet and Netflix, and were able to save $82 per month.
Both the husband and wife reviewed all of their subscriptions that were auto-charged to their cards each month, but they didn’t really use. Between the two of them, they cancelled 5 subscriptions, saving $149 per month.
The total savings from just managing their cash flow better was $606 per month!
On the additional income side, they had some great advantages here! When they filed their taxes, they were able to get a tax refund of just over $3,600. They put this entire amount toward their emergency fund.
To earn additional income, I helped the wife become a notary and she was able to bring in an additional $700 a month, working only an additional 7-8 hours per month. (I’ll do another blog about how to become a notary and bring in this kind of income).
This couple was able to save their entire emergency fund of $16,950 in just 10 months by managing their cash flow and saving 100% of any additional income they received!
I know everyone’s situation is different, but this roadmap shows you it’s possible. With a few sacrifices along the way, you can definitely save enough money to cover your monthly expenses.
Let me know your thoughts about this couple’s success and how you plan to also save your emergency fund.
Until next time, stay S.M.A.R.T. about your finances!