An emergency fund is a little bit like insurance. You’re not going to need it all the time, but when you do need it, it’s absolutely crucial for keeping your finances in check. An emergency fund is an account that allows you to be financially prepared for unexpected situations or expenses.
What is an emergency fund
An emergency fund is a separate account that you use to cover unexpected expenses. It can be a savings account, money market or CD (Certificate of Deposit). Some people choose to include their emergency fund in their overall investment portfolio, but others prefer to keep it separate so they don’t have to worry about making withdrawals during market downturns and incurring penalties for doing so.
Regardless of where you choose to keep your funds, the goal is always the same: To have enough cash on hand that will last 3-6 months if something comes up unexpectedly (like losing your job ).
Why do I need it?
No matter your current financial position, having an account designated for emergencies only is extremely useful. It provides you flexibility and protection from any financial peril that comes your way. There is nothing wrong with using credit cards to get out of financial jam in the short term. Heck, you can even earn points/miles/cash back. But, doing so on a consistent basis will rack up interest charges that can do financial damage. Using credit strategically, with your emergency fund, is a smart financial move.
Overall a good emergency fund can help you avoid debt, provide you with a safety net when things go wrong and help you cope better with unexpected expenses. If you have an emergency fund, it’s less likely that you’ll take on more debt in order to cover an emergency situation instead of saving up for it or waiting until the money comes in.
A well-stocked emergency fund is also helpful because it helps prevent financial hardship caused by job loss or illness–something that’s far more common than most people realize: according to Pew Research Center data from 2013 (the latest available), about one-third of American workers are employed under conditions that give them little job security; another study found that 75% of Americans have experienced at least one type of financial hardship since turning 18 years old–that includes unemployment lasting longer than two weeks!
What can be used as an emergency fund
The best type of account to use as an emergency fund is one that’s safe and liquid. This means that you can access your money quickly, with little or no penalty, and without having to sell anything.
Here are some common options:
- High Yield Savings accounts
- Money Market Funds in a brokerage account
- Certificates of deposit at a bank (CDs)
Your checking account is another option but they typically don’t pay any interest. If this money is going to be parked for the foreseeable future, you want to earn something but still be safe and protected.
How it fits into your financial plan
The emergency fund is a buffer against unexpected expenses. It’s an account that you can use to cover short-term debts, financial gaps, or other major expenses. When you are planning for your future and saving for retirement, it’s important to have some money set aside for emergencies. There is no way around this–it’s just something that needs to be done! You don’t want to be caught in a situation where something comes up and there isn’t any money available. The worst thing would be having to liquidate retirement savings, college savings or another long term investment that you will incur taxes or penalties to access. An emergency fund is your protection. It can be considered the foundation of your financial plan. You need to be build up your cash reserves in addition to your long term savings.
Conclusion
We hope we’ve helped you understand the importance of an emergency fund. The truth is that it can be a lifesaver, and we encourage you to start saving as soon as possible. If you’re looking for some tips on how to get started or where to invest your money, check out our other articles!
