Posted by Mike Smith :: September 24, 2008 @ 6:55 amCreating an emergency fund is certainly important, but spending it wisely when the time comes may be even more essential. Poor decisions may make an emergency fund much less effective, or require a much greater sum to be amassed.
As was discussed in my short-term savings post, a general goal is to have three to six months’ worth of living expenses in an easily accessible form such as a savings or a liquid investment account. To reach that goal you need to know how much you actually spend each month and which of those expenses are truly necessary.
The first problem that often arises with emergency funds is that they are accessed for non-emergencies. Losing your job, incurring an unexpected medical expense, or facing foreclosure on your home are all examples of true emergencies. Wanting to go on an expensive vacation, upgrading your wardrobe, or financing the purchase of the latest gadget are a few examples of things that are certainly not reasons to access your emergency fund.
A second problem is that once emergency funds begin to be used, they may seem like a way to maintain your current standard of living. A better method is to use the spending of your first emergency fund dollar as a wake up call to drastically cut many of your normal expenses. You may need to go into financial survival mode at that point. The day I ever dip into my fund I would also cancel many of my discretionary services. I would only keep things that would help to reduce the duration of my emergency, such as Internet access if I was using it for a job search.
If you don't have an emergency fund, consider starting one today. If you already have one, ensure that you only access it for actual emergencies. Once an emergency arrives, spend wisely and cut expenses to make your prudent planning last as long as possible.
2 Comments
For the past year, I have kept re-reading one of my financial goals- to have $7500 set back for emergencies. By having it wrote down on my Things To Do list, I was ever conscious of the goal and what it would take to save that much. Thankfully I sold one of my investment properties at full price and was able to set back $8000, exactly one day before I was laid off as part of a mass workforce reduction. I was able to negotiate an additional two weeks of pay on my severance package, and, all combined, I now have five months of savings to cover my $2500 a month expenses. I am grateful for having my expenses in check, and for having Grade A credit. I hope to ride out this horrible economic storm as painlessly as possible, thanks to good advice like yours that I actually heeded several months ago.
@Glossybird - You've done well to prepare for a difficult time. By reaching the upper end of the recommended 3-6 months worth of expenses, you are in a very strong position to get through this challenge. You excellent credit is also a big plus. Best of luck to you.
Everyone else can learn from this example. No one expects to lose their job, but it can happen at any time. Even if you feel secure in your job, other unexpected expenses are always a possibility. Preparing for such a time by building an emergency fund is an excellent way to go.
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