Dodging the unforeseen crisis seems to be the way of life for most of the working world in frugal times. Though many have the good intention of “squirreling away” funds for health changes, accidents, unexpected death, job loss, property repairs or other life events that affect income and cash flow, the truth is that many never get around to it. Then when the horrid emergency suddenly arrives, those spenders are forced into a tailspin. They launch quiet acts of desperation: selling prized possessions, creating more debt by securing risky loans, borrowing money from family and friends when they know they can never pay it back, or losing everything they own because of a monetary setback.
Financial experts agree: the working adult who is able to amass a savings that is equal to between three and 12 months of living expenses is an adult who has a stable emergency fund. A cash reserve of this amount gives you a respectable tool to fight the financial panic that can set in when an emergency occurs. Though the shift in resources may still initially stun you, it does not leave you without breathing room to come up with a decent plan.
Many debtors who find themselves in a pinch react to emergencies by immediately placing themselves in more debt. Loans – whether personal or formalized through financial institutions – set the groundwork for even more financial disaster. Debt accumulation and hasty credit card swiping have never benefited any borrower in the long run. Not only are you forced to meet deadlines with payments, but in many cases, you also are expected to repay much more than you borrowed. Emergency funds alleviate this kind of stress on your future. Having access to funds that you do not have to drown in interest and ensures you can stay in control of the situation and not have it control you.
The emergency fund also gives you leverage to work out new payment terms with existing creditors until your emergency is resolved. The inability to pay a single dime is seen as a far worse scenario than reducing the amount of your payment until the crisis passes. Creditors are generally pretty flexible this debtors who can communicate and honor their promises.
One personal arena many do not consider will be impacted by the lack of an emergency fund is good health. The stress that can come on when there is a sudden loss of income or a huge need for immediate cash can be almost lethal. An emergency fund gives you peace of mind – a sense of security that you have the tools to bounce back from financial reversal. So many life-threatening illnesses and conditions (i.e., cardiac conditions, strokes, depression, eating disorders) begin with intense worry about money. Better money management can be a sound approach to better health.
On a spiritual level, the emergency fund indeed helps to save your soul. You are not forced to sacrifice your own value system or your own human dignity in order to survive. For example, if the reason that you have need for an emergency fund is that you have a seriously ill child, then it is likely you are more willing to do just about anything financially to save your child. Lack of an emergency fund in this case may force you to do things that are unsavory or unscrupulous to save a life. Having an emergency fund allows you to emerge from crisis with your principles and values still intact. You will not have to sell your soul to save your child.
Once you have assured yourself that an emergency fund is important, there are several key things to remember about building your cash reserve:
1) The emergency fund should be liquid (cash), but it should not be terribly easy for you to deplete the money you have saved. If you can get to the money too easily, you may be tempted to label almost every event an “emergency” and spend all that you have.
2) You should always pay the emergency fund as if it is a bill, and make sure it is the first bill that you pay. This is the best way to build an emergency fund. Slowly over time. To keep yourself honest, set up this payment on automatic deposit.
3) Place the money in an interest-earning account. This makes your money work for you while you work for your money.
4) When you have to dip into your emergency fund to cover your current emergency, begin replenishing your stash right away. Never take all of your funds out of an account and let a long time lapse occur before you start saving again. It kills the good habit you have formed with saving money; and everyone who is old enough to spend knows emergencies, never predictable, are going to happen as surely as you breathe.