What is an Emergency Fund?

The emergency funds are money people have in a safe place that they can access when in financial trouble. A safety net is a financial tool that helps people in times of financial distress.

The assets in an emergency fund are usually cash or other highly liquid assets. This makes it easier to draw on high-interest debt options such as credit cards, unsecured loans, and less likely that you will be able to tap into retirement funds.

Understanding Emergency Funds

An emergency fund is money you set aside to help in times of financial hardship. You can lose your job, be diagnosed with a serious illness, or have your house or car damaged in a major accident.

There are many factors that influence how large an emergency fund should be. These include your financial situation and lifestyle. A lot of financial advisors recommend saving enough money to cover between three and six months’ worth expenses. This will help you weather a short period of unemployment or a moderate healthcare bill.

Experts recommend an even larger cushion. Suze Orman, a celebrity finance guru, recommends an emergency fund that can manage up to eight weeks’ worth of expenses. This was well before the 2020 crisis. The stark reminder of how deep and abrupt an economic slump can become is that she had made this assertion.

Individual circumstances can dictate what savings level you feel comfortable. One adult, without children, might be content with covering three months of expenses. However, the sole breadwinner in a family may need to save enough to cover half the year.5 Research has shown that many Americans are far below the recommended savings range. According to the Federal Reserve’s 2020 survey, more than one-fourth Americans don’t have the money or the equivalent to pay $400 for their expenses. That number rose to 45% among unemployed workers.

If you are living paycheck-to-paycheck, it may be more sensible to set smaller goals such as contributing 2% to a rainy day fund, and gradually increasing your contribution rate over time. Even a small safety net can give you some breathing space in case of financial emergencies.