Having an emergency fund for unplanned expenses can save you from a bad situation. Here’s how to create and prioritize one.
Keeping a reserve of cash on hand in case of an emergency is essential. For many, it’s challenging to create a dedicated emergency fund and even more difficult to maintain.
A 2022 Bankrate survey found that only 44% of Americans would be able to cover a $1,000 emergency from their savings. Furthermore, respondents say rising inflation is causing them to save less for unplanned expenses.
Even if you keep a large running balance in your checking account or own a high minimum credit card, you still could benefit from having an emergency fund. It should be separate from your day-to-day cash to make sure it’s there when you need it. Borrowing to cover an unexpected expense can be the start of a financial hole that’s difficult to dig out of.
If you dipped into your emergency fund over the past few years—or never had one in the first place—make it a priority in to set aside sufficient emergency savings.
Here are six steps to create and maintain a proper emergency fund:
- Consider using a basic savings or money market account. Ideally it can be linked to your checking account. You want the money accessible in a day, but not in an instant. You want this money to stay safe and liquid. It should not be invested in stocks or even bonds, where it may be subject to market risk2.
- Look for an account that pays you back. Some savings vehicles offer a small annual yield. It’s important to note that some of those may have minimum deposit or balance requirements. Shop around. Make sure there are no annual fees.
- Save enough to cover three to six months of expenses. The amount you need in the account for your own emergency fund will vary depending on if you have a number of dependents (you need more) or a spouse with a job (you may need less), or wealthy parents you can ask for help (again, you’d need less). If you have one income, are self-employed and have a family to support, you may want up to eight months in an emergency fund (and don’t neglect health and disability insurance).
- Start small. If you don’t have that kind of cash on hand, set up an automatic transfer of, let’s say $100 a month, into the account until you reach your target.
- Only tap the account for true emergencies. This could include your car breaking down, losing your job, the roof starting to leak, or a large medical bill.
- Replenish the account if you draw on the funds. Unplanned expenses aren’t one and done. They may even come in threes.
Even if you typically don’t incur an unplanned expense for years, you’ll still benefit from knowing you have a comfortable cushion in the event of an unexpected expense.
Connect with your Morgan Stanley Financial Advisor for help building or maintaining your emergency fund.