Emergency Funds Need a PR Makeover

First, there’s the name itself—who wants to contemplate broken-down cars, sick dogs, or job loss? Perhaps a name like “cushion fund” would hasten interest.

Then there are the ideal emergency-fund (oops, cushion fund) amounts that are usually bandied about—three to six months' worth of living expenses in very safe investments. That’s a decent starting point, but it sounds hopelessly off-putting to people just getting their financial footing. In reality, the only living expenses you need to cover with your emergency fund are the very basic ones—housing costs, insurance expenses, utilities, and food; from that standpoint, amassing a cash cushion looks a lot more manageable.

Emergency funds need better messaging because they’re an absolutely crucial aspect of any financial plan, regardless of the life stage or situation. For people who already have high-interest-rate debt, having an emergency fund can help guard against resorting to additional high-cost financing in a pinch. Having a cash cushion on hand also helps you defray unexpected expenses, whether a new roof or out-of-pocket healthcare costs, without needing to raid your retirement accounts for financial hardship. Finally, the big reason to have an emergency fund—and this is where the three to six months' worth of living expenses guideline comes from—is to cover your basic costs in case of job loss. The greater your fixed expenses and the harder your job would be to replace (because it’s specialised and/or higher paying), the larger your emergency fund needs to be.

Key Steps to Set Up Your Emergency Fund

Step 1: Determine Your Monthly Living Expenses

Tally up your essential monthly outlays: housing costs, utilities, food expenses, servicing debt, insurance, and taxes. Exclude nonessential items like discretionary purchases and luxury services. Multiply your essential expenses by three months—this is your absolute minimum savings target.

Adjust this figure based on your income stability, job type, and flexibility in reducing expenses. Specialized roles and older age might necessitate larger funds, while younger individuals with fewer commitments can get by with less.

Step 2: See How Much You Have Right Now

Add up your bank and money market account balances, excluding amounts allocated for other goals like car down payments or education. This total is your current emergency fund.

Step 3: Set Your Emergency Fund Savings Target

Subtract your current emergency fund (Step 2) from your minimum savings target (Step 1). This difference is what you need to save. Prioritize building this amount—ideally double it—alongside paying off high-interest debt.

Step 4: Identify Appropriate Investments

Stick with simple, liquid cash investments: checking and savings accounts, CDs, and money market accounts. Online savings accounts and credit unions often provide competitive yields. Do not pursue risky, high-return assets here.

Step 5: Find the Right Receptacle

Accessibility matters. Use accounts that allow penalty-free withdrawals to avoid taxes and fees during emergencies. If you're a homeowner, consider a home equity line of credit (HELOC) as a secondary safety net—but establish it while you're still employed.