Emergency Fund 101: A Quick Guide to Baby Step 3

Wouldn't it feel great to have a buffer between you and the curveballs life throws at you—a buffer that helps you sleep like a baby because it turns a crisis into an inconvenience?

Well, there’s good news! That buffer is part of the EveryDollar plan. Say hello to the fully funded emergency fund, also known as Baby Step 3.

The emergency fund is a reserve of three to six months' of expenses that you set aside to cover any sudden costs such as a fender bender, hospital visit or leaky roof.

The reason to have an emergency fund is simple: You don’t know what’s going to happen in life. Money magazine states that 78% of us will have a major negative financial event in any given 10-year period. We are not recommending that you run around like Chicken Little, but you should be smart and have cash ready to help cover the basics if you were to lose your job or your heater breaks in the dead of winter.

How do I determine how big my emergency fund should be?

The more stable your money and household situation is, the less you need in your emergency fund.

If you are part of a two-income household or you’ve had a steady job for several years, then a three-month emergency fund is probably fine. But if you are a one-income family, self-employed or earn straight commission, then a six-month emergency fund is a better idea because a job loss would mean you couldn’t pay the bills.

You should also lean toward a six-month fund if someone in your house has chronic medical problems that require doctor or hospital visits. Even if there is room in your monthly budget to pay for medical attention, it’s still a good plan to be prepared in case of a big emergency.

Where is the best place to keep an emergency fund?

Your emergency fund should be liquid, meaning you need to keep it in a place where you can get to it easily and quickly. The best option is a simple checking account or money market account that comes with a debit card or check-writing privileges. That way, you can pay that doctor or wrecker service with the stroke of a pen or the swipe of a card.

When do I use my emergency fund?

When a sudden expense pops up, it can feel like an emergency—but that may not always be the case. There are three questions to ask yourself to determine if you need to tap into your savings: Is it unexpected? Is it absolutely necessary? And is it urgent? The more you answer yes, the more likely it’s an emergency and the more it justifies using money from your emergency fund. Things like a broken transmission and busted water pipes are good examples.

How else does my emergency fund help me?

We all view the emergency fund differently. Some of us feel safer with a pile of cash on hand for when life happens. Others don’t want money to just sit there. They want to do something with it—like invest.

Remember, though, the emergency fund is doing something. It’s giving you peace of mind. You sleep better at night when you have cash saved. That is a great return on your money!

Now that you know what an emergency fund is for, start putting one in place. Get on a budget, pay off your debt, and start saving. You’ll be amazed at how quickly your emergency fund piles up when you aren’t making payments to debt. But, the best part? You’ll feel an amazing sense of security after completing Baby Step 3.

In fact, if the roof starts leaking, don’t be shocked if you ask yourself What’s the big emergency?

Ready to put a buffer between you and life? See how easy it is to set up a savings goal and put money toward your fully funded emergency fund with EveryDollar.