Emergency Fund

[mrinvest]

Ok, so we all know about the emergency fund you should have before you begin investing. "Experts" say you should have between 3 and 6 months of income saved.

Do they mean single income or both incomes in the case of married couples?

 

[FinanceDude]

Actually, LIVING EXPENSES are the key. You need 3-6 months of LIVING EXPENSES (Or more) in an emergency fund..........

 

[ratface]

I don't think you can look at that rule as an absolute. I have never had an emergency fund and still don't. I have been investing for 27 years. I keep cash for other purposes, i.e. 12K for DD HS tuition next year that I could utilize during an emergency. You also have to look at the stability of your occupation as well as your spouse. If you are a commision only sales person then you might need more than the 3-6 month standard. For instance, I work for local city gubermint and layoffs are structured by contract where 5000 people would have to go before I do. I think that having some mattress money is more important in the short run in case of civil or natural disaster.

 

[ziggy29]

The conventional wisdom is 3-6 months, but IMO these economic times don't call for conventional wisdom. I think a household has to look at several factors including their job security and whether they are a one-income or two-income household.

A two-income household with two very secure jobs is probably okay with 3 months of expenses. A single-income household with a less secure job should, IMO, have at least 12 months of living expenses in this economy. As my wife is currently unemployed and I'm in a private sector job, I err on the side of paranoia and am currently at 18 months and it still doesn't feel like enough.

 

[FinanceDude]

All I was trying to say is that LIVING expenses are a key, because those are the bills that keep on comin'.........

 

[Sarah in SC]

It should be calculated on the minimum monthly expenses that the household incurs. I think 3 months of ready cash is reasonable in many cases where there are two incomes, stable employment, etc, but it all comes down to your personal comfort level.
I keep about 3 months worth of cash, and have the unused HEL as well.

 

[tmm99]

Suze Orman usually says 8 months worth of living expense for emergency fund, but she upped it to one year on her show last week.

 

[ziggy29]

Suze Orman usually says 8 months worth of living expense for emergency fund, but she upped it to one year on her show last week.

I think it makes sense for most people to up their target in a job market this bad, but as I mentioned earlier, one size definitely doesn't fit all. A dual-income couple with two *very* secure jobs don't need anything close to a year in most cases, and households in our position probably could never be holding too much cash in reserve.

 

[W2R]

Three months' emergency money is just not enough! I think the best plan is to save up an emergency fund equal to six months to one year of expenses, before investing or paying more than is required on your house.

(However, I didn't do that. Before I started investing (outside of my TSP), I literally poured every cent into paying off my house and got it paid off in four years. I didn't have an emergency fund at all, until after that. I was scared at the time, but my spreadsheet said that I needed to take that risk in order to reach my goals.)

This is a case of "do as I say, not as I did". Be smart.

 

[Sue J]

Dave Ramsey says that your "baby emergency fund" should be $1000 until you get out of debt. I found this to be uncomfortably low. That may be enough to cover an unexpected repair bill or a small expense but it's nowhere close to being enough if you lose your job. If it takes 1.5 to 2 years or more to pay off debts, that's too long to be at such a small emergency fund.

Once debts are paid off he recommends a full emergency fund of 3-6 months of living expenses. I'm thinking more like 6-9 months because employment is pretty poor around here. His program is very logical but often he doesn't take into account how bad the economy is outside of his happy place in Nashville, TN.

Right now we have 7 months living expenses in savings. We were halfway through a debt snowball and my husband started to feel that his job may be in jeopardy. They have to give him 90 days notice if they don't renew his contract. His contract renews June 1st and so far he's ok so it looks like he will be good for another year. But last September we stopped paying any extra on debt and saved it all instead. When he signs his contract we will pay off a $6000 credit card and maybe a small student loan and keep at least 3-4 months as a nice cushion.

 

[ziggy29]

Right now we have 7 months living expenses in savings. We were halfway through a debt snowball and my husband started to feel that his job may be in jeopardy. They have to give him 90 days notice if they don't renew his contract. His contract renews June 1st and so far he's ok so it looks like he will be good for another year. But last September we stopped paying any extra on debt and saved it all instead. When he signs his contract we will pay off a $6000 credit card and maybe a small student loan and keep at least 3-4 months as a nice cushion.

I would agree with that. Ramsey gives some good advice (and some bad advice like the "12% returns on stock funds") for the "common denominator" of listeners, but he's too rigid and doesn't tend to allow for much deviation from the script based on individual circumstances. (But as he's aiming for the masses, I can understand why; otherwise everyone else would think they are the exception.)

In a job market like this one, liquidity is critical. If I had good cash flow, I'd rather have $20,000 in the bank and $15,000 in debts than $5,000 in the bank with no debt.

In a more robust job market, I'd pay off the debt licketysplit. But in this market, it's all about the cash.

 

[JOHNNIE36]

Before I started investing (outside of my TSP), I literally poured every cent into paying off my house and got it paid off in four years. I didn't have an emergency fund at all, until after that. I was scared at the time, but my spreadsheet said that I needed to take that risk in order to reach my goals.)

This is a case of "do as I say, not as I did". Be smart.[/quote]

Congratulations on achieving the goal of having your house paid off. I'll bet you really sleep good at night. DW, who was used to never having much in life before we married, confessed that her one goal in life financially was to have the house paid for. If something were to happen to me, she was scared to death that she would have to move, because that was all she ever did in her young life and that was to move every other year. The day we actually paid off the house, she cried. She is now so secure and would never have to move again. I hope the feeling was great for you also.

 

[W2R]

Congratulations on achieving the goal of having your house paid off. I'll bet you really sleep good at night. DW, who was used to never having much in life before we married, confessed that her one goal in life financially was to have the house paid for. If something were to happen to me, she was scared to death that she would have to move, because that was all she ever did in her young life and that was to move every other year. The day we actually paid off the house, she cried. She is now so secure and would never have to move again. I hope the feeling was great for you also.

It was! It was especially good because at the time I had a supervisor who was playing head games with me, and because jobs in my specialty that pay well are rare, so I was stuck with her. With the house paid off, I knew I could always support myself with no more than a minimum wage job, if worse came to worst. Knowing that I had an option was wonderful (I am not married so no hubby salary to fall back on). Luckily, I stayed at the job and have another supervisor now who is the best possible. I thank my lucky stars every day for that.

 

[Zoocat]

Here's the way I look at it. There's an emergency fund which would replace your expenses if necessary, and I think a year is ideal. But if you can afford more than a year then I think it's warranted in this economy.

But then there's an emergency fund for "emergencies", i.e., unexpected car breakdowns, appliance replacement, the leaky ceiling. These emergencies can usually be paid with insurance but you need to have the cash for the deductibles. Everyone's "emergencies" are different. But you know what might go wrong in your scenario, so you can figure out how much to save, plus a little more according to your comfort level.

 

[SecondCor521]

As several people have said, I think it comes down to one's circumstances and comfort level.

In my case, I have never been unemployed for more than 4 months in my adult life, and when I am employed I can easily pay my bills because I LBYM. Based on those facts and my own personal comfort level, I target 4 months of basic living expenses in accessible, liquid funds. Beyond that I also have an untapped HELOC, untapped credit cards, retirement funds, and a standing low-interest loan offer from my parents, in descending order of desperation.

I have noticed a couple of other salient points about rules of thumb:

1. They are rarely specific enough to be measurable. (Although Dave Ramsey's rules of thumb / baby steps seem to be more specific than most). "Save 10% of your income" -- pretax? post-tax? AGI? what counts as income? What savings goals are included in that 10%: retirement? emergency fund? irregular expenses like Christmas? my next car? my kids' college? They rarely spell this out.

2. They change with the times. The percentage (of what: net worth? investments? retirement funds?) you should hold in your own company's stock was sometimes quoted as high as 15-20%. Then Enron happened and the rule of thumb adjusted downward to 5%. The same thing has happened with the emergency fund rule -- lately the recommended amounts have been increasing.

2Cor521

 

[mrinvest]

Wow, some really good advice here thanks a lot! I'm one of the ones who started investing before I had a strong emergency fund built up so I'm working on that now.

I do have a small amount for the unexpected car repair, etc but I really need to step up the savings to my emergency fund in this market. I'll start out aiming for six months of living expenses and go from there.

 

[youbet]

It's naive and an oversimplification to think of an emergency fund as being only cash.

What you need is an emergency plan. How would you replace your income if you lost your job or how would you pay for emergency purchases that are above your income? The answer might be some cash in hand but could also include investments liquid enough and stable enough that they could conveniently be converted to cash before your actual cash is depleted. Or it could be some sort of line of credit.

Here's an example. If I had a significant position in the Vanguard GNMA fund and a HELOC lined up on the house, I'd probably keep no more than 3 or 4 months of expenses in true cash. If all my investments were in volatile equities and I was a renter, I'd probably keep a year or more in true cash.

 

[ziggy29]

It's naive and an oversimplification to think of an emergency fund as being only cash.

...

Here's an example. If I had a significant position in the Vanguard GNMA fund and a HELOC lined up on the house, I'd probably keep no more than 3 or 4 months of expenses in true cash. If all my investments were in volatile equities and I was a renter, I'd probably keep a year or more in true cash.

I guess it depends on your risk tolerance.

I could buy something like a Ginnie Mae fund for part of it because of its security and relative stability, but I for one can't consider using debt as an "emergency fund." In the right situation, taking on home equity debt may have its place, but I personally couldn't sleep at night if my "emergency fund" included a need to borrow money.

I'd agree the ability to borrow in the short term could add an extra worst-case cushion to the amount of time someone could sustain a huge expense or a job loss, but I wouldn't think of that as part of an "emergency fund." It's more like worst case access to borrowed capital.

 

[W2R]

I used a HELOC as my "emergency fund" briefly while I saved up a cash emergency fund. Then I cancelled it. But HELOCS were seldom "frozen" then as has happened more and more frequently in recent months.

 

[bbbamI]

At this point, I'm thinking an emergency fund of 30 years living expenses....

 

[W2R]

At this point, I'm thinking an emergency fund of 30 years living expenses....

Plus enough extra to cover inflation?

 

[Notmuchlonger]

Plus enough extra to cover inflation?

What inflation. We will be in a recession for the next 30.

 

[growing_older]

I also used an untapped HELOC as part of my emergency fund. Then they started freezing and restricting them based on sweeping generalizations that might or might not apply to me. I figured I couldn't take the risk that the HELOC would be unavailable just when I needed it, so I borrowed enough on it that I have a comfortable emergency fund and parked the money in CDs. If I pay off the HELOC before I have an emergency, then all is well and I have my emergency fund. If an emergency hits while I still owe on the HELOC, then I'll be very glad I have cash in hand and don't have to worry if I can access it or not. If rates move strongly against me before either of those happen, then I'll have an opportunity to either stay the course or pay off the HELOC with the CDs and think of another plan.

 

[Lawrence of Suburbia]

I'm On My High Horse Now!!

I think that 3-6 months' living expenses is a relic of recent good times' conventional wisdom. I'd advise anybody just getting their financial house in order now to have at least a year of living expenses, plus a few thousand extra to cover a big unexpected hit (like a medical expense, or car blowing up.*) IMHO we've got a lot more jobs to be lost, and therefore a lot less jobs to be available, so a big cushion is a must. If you've any credit card debt, get rid of it. Debt of any kind will be poison if the recession morphs into a full-blown depression.


*And not "minimum" living expenses; make an accounting of everything you need to get by during a typical month: rent/mortgage, all utilities, insurance, groceries, gas, auto maintenance, prescriptions, etc. If you do owe on a credit card debt and such, retire that debt now if possible.

**This should be in a savings account, CD, money-market fund or such. Liquid and accessible. A high interest rate is not important. It should not be in a stock and/or bond-owning mutual fund, a variable-life policy, or anything else tricky.

 

[Lawrence of Suburbia]

At this point, I'm thinking an emergency fund of 30 years living expenses.

That's about how I'm saving for retirement...seriously!

My cash savings equal about 15% of my total portfolio. As my portfolio (hopefully!) increases over time, I hope to keep the cash portion at around 15-20% until it equals about 3-4 years' living expenses. That's the point in time at which I might retire.