Why you need an emergency fund

Grandma plays with granddaughter.
February 18, 2020 | Michelle Huffman

You know you need one: An emergency savings fund. Saving for an emergency fund isn’t exactly thrilling, but it is necessary.

Without an emergency fund, if something happens like a job loss, a major illness or a car breakdown, you could make a sticky situation worse. You have the initial problem, and then you have the subsequent money problem. And, of course, an emergency can happen to anyone at any time.

When you need an emergency fund

There are several situations where an emergency fund is necessary. They don’t have to be catastrophic situations — any unexpected large expenditure that doesn’t fit into your regular budget could be covered by an emergency fund.

Job loss: Losing a job is bad enough, but then scrambling to cover your bills while job hunting can be worse. If you know you have money available to float you for three to six months, you have time to work toward the right career move instead of taking a job out of financial necessity.

Medical bills: Even if you have great medical and dental care, a major illness, injury or other medical episode could really set you back. Medical expenses are a key contributor to nearly two-thirds of bankruptcies, according to a recent study, and one researcher claims that health insurance isn’t enough to protect many people from long-term illness or injury.

Home or car repairs: Similar to how health insurance doesn’t cover everything, homeowners or auto insurance doesn’t either. The breakdown of a major appliance, like a dishwasher or a fridge, can cost hundreds of dollars. A car accident will cost at least your deductible, and car repairs will cost a few hundred to well over $1,000 if something like your transmission goes out.

Where to put an emergency fund

An emergency fund needs to be safe, secure and easy to access. This means it needs to be in a liquid account, so you can pull out money whenever the emergency arises. However, the more liquid the account, the less earning potential it typically has. Standard savings accounts at brick-and-mortar banks typically bear little interest but investing your money comes with inherent risks and limits your access.

A high-yield online savings account can offer an interest rate well above the bank industry average. Opening a new account and dedicating this separate savings account to your emergency fund can help minimize the temptation to dip into it for non-emergencies. Set up automatic transfers to keep the funds flowing.

An emergency fund, even a small one, can help offset those unexpected costs and maintain financial stability when you need it most.

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