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Figuring out how much you should save for emergencies can be overwhelming. After all, the very nature of an emergency is that it's unpredictable. To help you figure out how much to save for a rainy day, we put together this emergency fund calculator.
How much should you save in an emergency fund? The typical answer is three to six months worth of expenses. Like any rule of thumb, however, it's probably wrong for you and me. While rules of thumb offer general guidance, they can't account for our individual circumstances. You may only need three months of expenses, while I may need 12.
To better tailor an emergency fund goal to your needs, I created an emergency fund calculator (see below). To understand the issues involved, let's look at factors that can influence how much one should save for a rainy day.
- 2 Types of Emergencies
- How much should you save in an emergency fund–5 Key Factors
- Simple Emergency Fund Calculator
- Next Steps
2 Types of Emergencies
There are two types of financial emergencies–expense emergencies and income emergencies.
An expense emergency is the most common. It's when we face an unexpected cash outlay. There are many reasons this can happen. A blown head gasket on your car; a bald tire that can’t be repaired; the washer and hot water tank go out, or a medical expense that requires immediate payment. Even with insurance this can happen. These types of emergencies can generally be handled with the 1-3 month emergency fund.
It’s the threat of job loss, what I call an income emergency, that can really set you back. Going without income for even a few months could put many on the street. A recent study by the Federal Reserve found that nearly 40% of Americans couldn't handle a $400 expense without borrowing money.
It's here that the importance of your specific circumstances come into play. In fact, there are five key factors to consider in assessing how much money you should save to cover an income emergency.
How much should you save in an emergency fund–5 Key Factors
1: How much must you spend each month to survive?
Many people spend more each month than they must. It's useful to divide spending between true needs and wants. While we may not want to cut our spending to the bone, that's exactly what we should do during an income emergency.
Here are some common expenses that could be slashed during an emergency:
- Gym memberships
- Eating out
- Home services (grass cutting, house cleaning)
- Subscription services
- Commuting costs
Once you've figured out your true needs, you know the monthly expenses an emergency fund should cover. One word of caution. Don't cut expenses too much. Some of this comes down to judgment. It may be easy to imagine not going out to eat at all during an income emergency. Then again, ordering a pizza every now and again during difficult times may be the emotional lift you and your family needs.
2: How quickly could you find a new job?
This factor is critical. If you know you can find another job quickly that pays the same, you won't need as large of an emergency fund. An in-demand web developer is a good example of such a person.
In contrast, you may work for the only manufacturing company in town. You may have union wages and benefits. Replacing the job could be difficult if not impossible. In such circumstances, a longer emergency fund would be important.
A related consideration is how secure your job is. Of course, even the most secure job could evaporate, as we've seen during the Covid-19 pandemic. It's still worth assessing job security as you plan for your emergency fund.
3: What other resources could you use in an emergency?
Consider whether you have other resources you could use in an emergency. As we were paying off debt, we kept very little in a traditional emergency fund. We did have, however, a growing 401(k) balance. We could have taken a loan from the 401(k) if we had to. It's not ideal; a cash emergency fund is best. Still, it's worth considering what you could do if you lost your job. At a minimum, it may help you prioritize your financial goals.
4: Are you a one-income or two-income family?
If you are a one-income family, you will likely need a bigger safety net than a two-income family. With a two-income family, unless you both work at the same place, it's unlikely that you'll both lose your job at the same time. Of course, Covid-19 may be a once-in-a-lifetime (let's hope!) exception to this rule. Exceptions aside, this is another factor to consider.
5: How much do you need to save for peace of mind?
The last factor is peace of mind. While rules of thumb and even an emergency fund calculator can help you arrive at a number, they may not help you sleep at night. If your analysis says four months is enough but your emotions scream seven months, go with your heart.
Simple Emergency Fund Calculator
The emergency fund calculator requires just two pieces of information. First, enter your monthly expenses. Second, select how long you believe it would take you to find a new job that pays the same or more than you are currently making.
Where should you keep your emergency fund?
If you need help budgeting to save for an emergency fund, check out Tiller Money. It's one of our favorite budgeting tools