Like Liz from the Frugalwoods says unforseen but totally predicatable “emergencies” in life happen all the time. We know that life will hit you with different challenges all the time and not uncommonly at the same time. Therefore it is of vital importance that you have a buffer against financial ruin. If you don’t have a buffer even slightly larger every day expences become “emergencies” and pulls you into a hole of finacial stress and in the worst cases debt. If you have an emergency fund that takes care of all the “emergencies” it is only the true emergencies that are rare and totally unpredictable that will affect you in a significant way although they will be mitigated by your emergency fund. An example from our life at the moment: our car is at the shop with a problem that the mechanics are having a really hard time figuring out. This has been a pain for the last couple of months and has dipped into our emergency fund. I also had to go to the dentist this week because my wisdom tooth was hurting really bad and I will have to get it removed next week which won’t be cheap. This same month we’ve also paid for musical tickets (a birthday present to my mum), an agility course for the LIL wolf and I’ve been to the doctor which are all things out of our ordinary spending but not emergencies. The emergency fund lets us get on with our normal life and spending and handle emergencies at the same time without feeling stressed about it.
A note on insurance
Some things insurance can take care of like damage to your house or car although there is usually a fee that you have to pay before the insurance company kicks in which you need to have money fore. These days you can get almost anything insured including you being clumsy and dropping things which will be a very expensive strategy over time. I think insurances except for the big ones where paying for it yourself would ruin you financially are unnecessary. Me and Mr LIL have a strategy of not owning expensive things that we can’t afford to replace ourselves if they break or get lost. Since most of what we own is bought second hand we haven’t payed full price for it and therefore it isn’t a huge financial loss if it breaks and we would probably replace it with a second hand item. The rest of our stuff we have owned for a long time so we have got plenty of use out of them. I think the most expensive thing I own are my skiis and I bought them at a large discount since they had been used for display.
How to calculate your emergency fund
An emergency fund is usually 3-6 months worth of expenses but it depends on your situation. To figure out your emergency fund number you first need to figure out how much you spend per month. I have also calculated a bare bones scenario (rent, lowest mortgage payments, food, phones, electricity, insurance) to figure out what the minimum amount of money that we need per month.
The next step is to evaluate your life situation. Does your income vary from month to month? Do you feel secure at your job? Do you have medical issues? Do you have children? Does your house need repairs? Do you have an old car? Do you have pets? There are lots of scenarios in life that will affect the amount of money in your emergency fund. This part only you can figure out and decide what amount feels comfortable for you and your life.
- on a normal month (including higher mortgage payment, paying off our student loans and saving for trips) our expenses are 34 000kr. Our bare bones scenario is 17 000kr (if the LIL wolf goes to doggie daycare) or 13 500kr (if she is at home). This means an emergency fund of about 100 000-200 000kr for normal expenses or 50 000-100 000kr for bare bones.
- life situation – we have stable jobs and income insurance so that we will get 80% of our salary the first 300 days of unemployment which covers our bare bones scenario per person 3 times over. We could also easily survive on one income for an indefinite amount of time so I am not worried about a scenario of loosing our jobs. We have insurance for our home, car, the LIL wolf and for us if we get sick or injured long term (as for medical expenses we live in Sweden where we get pretty much free medical care after the first 1000kr). We also have the privilege of having two supporting families that I know can help us out in real emergencies and we could always move back home for periods which means we don’t have to have that much extra money in our emergency fund.
- our emergency fund: Mr LIL and I have 40 000kr each and then 30 000kr together so a total of 110 000kr
Where to keep your emergency fund
You need to be able to access your emergency fund at all times so the best place is in a normal bank account. A tip if you don’t want the money to be too accessible is to have some of it in a bank account that you can draw from straight away and the rest at another bank which means that it will take a couple of days to get the transfer through. This is a good strategy if you’re prone to “borrowing” from yourself with the ambition to pay yourself back later. The money is still accessible but the time to get it creates more of a threshold to use it. I do this and have the larger chunk at a bank that gives slightly higher interest. Do not invest this money in the market. You don’t want this money to be influenced market which could leave you with no emergency fund when you most need it, for example if you lost your job in a recession.
Replenishing your emergency fund
It is very important to immediately replenish your emergency fund after the emergency is over since life tends to throw more than one challenge at a time for some reason. Stop all your other saving or investing until you have replenished to the level that you are happy with. It is also a good time to reevaluate your life situation – do I need more money?
I hope I have been able to communicate the importance of an emergency fund for a life of less financial stress!