Defend Against the Unexpected: How to Build an Emergency Fund

Life is full of uncertainty.  Cars break down, we get sick, layoff notices come, roofs leak, water heaters burst, and bones break.  These and other events strike without warning.  IDebt Cycle Graphicf you do not have money set aside to handle these situations, you will likely be forced to rely on high-interest debt such as credit cards or payday loans.  The high-interest rates make it hard to pay back the debt and you get trapped in a vicious debt cycle.

Your best defense?  Develop and maintain an emergency fund.  An emergency fund is cash that is set aside in a protected account that is used as a last resort in the event of a financial emergency.  Some people refer to the emergency fund as a “rainy-day account” or a “what if” account.

If you are just beginning down the road to better financial management and are struggling to pay off high-interest rate debt, it seems hard to justify cash sitting around earning maybe 1% (or less) in interest.  If you are trying to grow your investment accounts and see your investments earning 6% or 10% a year, it may seem silly to put cash into an account that earns only 1%.

However, the emergency fund is a highly liquid account such as a savings account or money market account for a reason.  If something happens and you need extra money, you do not want to take on debt (again!) or face penalties and time delays in accessing your money from an investment account.

How big should my emergency fund be?

Save for Rainy DayFinancial experts vary on this question.  Dave Ramsey says $1,000 as a minimum starting point and as you are paying down debt.  Paying down high-interest debt will often make a greater impact on your financial situation then building a robust emergency fund due to the low interest earned on the savings and the low frequency of needing to dip into the emergency fund versus the high interest being paid on debt each month.

The general emergency fund recommendation is 3-6 months of expenses, but some even say 9-12 months of expenses is ideal.  Note:  This is months of expenses, not income.  Calculate the minimum amount you need to cover bills, debts and living expenses for one month, then multiply that expense number by the number of months you want to have in reserve.

My answer?  Consider your individual variables.

Ask yourself the following questions:

  • Is my household a single income household?
  • Is anyone besides me dependent on my income?
  • If I lost my job, could I live on unemployment or would I need to draw down my savings to survive?
  • How fast do I think I could get another comparable job?
  • Do I have housing options (friends/family) if I can’t afford to pay rent? How viable are my housing alternatives?
  • Am I renting or do I own a home?
  • Could I get a roommate or rent a room out if I needed to?
  • Do I have any ongoing medical needs that I need to pay for?
  • How old is my car? Is my car due for maintenance or repairs?
  • What are the deductibles on my insurance policies? Consider auto, renters/homeowners, and medical.
  • What other savings do I have?

Someone who owns a home, is supporting a family on a single income, and works in a field where it is difficult to find a comparable job will need a much, much larger emergency fund than someone who could potentially move in with his or her parents and easily live off unemployment.

If you have a newer, very reliable car and do not own a home, then $1,000 is probably a good starting point.  When I began recovering from my rock bottom financial moment (read about it here), I personally wanted a minimum of $1,500 as my starting point ($500 for emergencies and $1,000 to pay my auto insurance deductible if necessary).  From there, I slowly built up my emergency fund ($20 a month) as I was also paying down credit card debt.

Pick a minimum amount that makes sense to you for your circumstances and then build your fund slowly with monthly contributions of whatever you can afford.  Stop funding the emergency fund once you’ve reached your pre-determined goal.  While an emergency fund is essential to healthy finances, saving too much in a low-interest account is not conducive to long-term financial health.

Where should I keep my emergency fund?

Penny Under Mattress Giphy

Not under the mattress!  All joking aside, keep your emergency fund somewhere liquid, but not in your checking account.  I like to have a savings account that is solely for the emergency fund so that I do not confuse the funds with anything else.  When setting up your emergency fund, you also want to find the best interest rate possible.

I like to keep my savings account at an online bank.  The money is federally insured and I can access the money within a day or two if I need it, but I can’t access it instantly.  Keeping the emergency money at the online bank provides a double mental barrier against dipping into the money:

  1. I don’t see the money sitting there when I log in to my regular accounts at the credit union, and
  2. I have a small built in “cooling off” period where I would have to wait for access to the funds.

These measures prevent me from impulsively spending my rainy-day fund.  Another benefit of online banks is that they generally offer higher interest rates.  Other financial experts recommend a money market account.  What should you do?  Find a relatively safe and accessible account that offers the best interest rate possible without a lot of risk.  On the day you need to access your funds, you don’t want to find out it suddenly shrank 20% because the stock market had a bad day.

Want to find out more?

Emergency lightEmergency funds are one of the basics of personal finance and the internet is full of articles about them.  Over the last few years I’ve read a lot about emergency funds and I’ve compiled some of my favorites.  The articles below present useful and unique perspectives on emergency funds that may help you determine what is right for your family and your situation.

  • Making sense out of competing expert advice

    • This article from the Lifehacker website compiles competing advice from various personal finance gurus.  This article offers a lot of food for thought to consider when setting up (or fine-tuning) your emergency fund.
  • Can you have too much emergency fund?

    • This article from Get Rich Slowly focuses on a problem most of us probably don’t have – an emergency fund that’s perhaps too big.  But I think this perspective offers important insight and will help you determine the ultimate size of the emergency fund that’s best for you.
  • What qualifies as an emergency?

    • Great article from The Balance that helps you redefine what, exactly, an unexpected expense is.  It has good reminders about making sure your budget accounts for infrequent, but expected, expenses such as annual premiums, annual eye exams, home maintenance, etc.  A reminder to use your emergency fund for emergencies.


Have you had any challenges establishing an emergency fund?  Do you have any tips to share?  Comment below!


The Power of Intentionality in Personal Finance

Personal finance is a fascinating topic because, well, it’s personal.  There are hundreds of books, blogs and celebrities out there espousing different philosophies.  YOUR money should be managed in a way that maximizes YOUR happiness, peace of mind, and security.  Money alone cannot buy happiness, but how you spend, save and invest money can bring you freedom from financial unhappiness.

I believe there are some general truths, such as living within your means, saving for the future, investing, and avoiding debt, that should be followed, but the specifics of what each person does is dependent upon that person’s values, interests, income and other circumstances.  People usually have a lot of emotions and baggage associated with how they spend money (or how they don’t spend money).  What works in one situation or for one person may not work for someone else.

Budget Calculator Paper

The Power of Intentionality

My money is a scarce resource – I only have so much of it to go around and a lot of opportunities to use it.  Managing my money requires me to make trade offs.  I can spend more now, but that will cut into my savings and may hurt my future goals.  Alternatively, I can save more now and have less available to spend in the present.  I do not enjoy being so frugal that I have to count every last penny, spend hours clipping coupons to save $4 at the store, or feel guilty when I purchase a few more expensive, ready-made ingredients at the store because it will save me 20 minutes of cooking.  The be-all, end-all goal of personal finance is NOT to amass the largest stockpile of wealth possible.  My personal goal for my finances is to maximize the life that I live and provide reasonable financial security for myself and my family.

The idea that money management involves trade offs (for any econ nerds out there – think opportunity costs!) led me discover the power of intentionality in my finances.  My goal for my personal finances is to be intentional.  What does it mean to be intentional?  It means that you are making deliberate choices and taking action on purpose – not by default, accident or merely as a result of a previous choice.  Synonyms for intentional include conscious, planned, calculated, studied, premeditated, and willful.

shutterstock_pathway choices

I realized that in order to make good financial decisions, I needed to understand my goals and preferences.  I also needed to understand my constraints.  I could not be intentional about my financial decisions if I had an incomplete understanding of my overall financial picture.  Armed with this information, I could make intentional decisions about my finances and proceed guilt-free to use my money in the way I determined was best.

When managing your money, it is important to realize that you can afford almost anything – but you can’t afford everything.  Some people choose to moderately spend and save in all areas.  Other people like to focus their spending on one big thing – like a hobby or travel.  Being responsible with your personal finances does not mean you can’t take that amazing trip through Europe that you’ve been dreaming about – it just means that you are prepared to make the necessary trade offs in order to make that happen.  Maybe that means putting off the trip for an extra year to give yourself longer to save.  Maybe that means getting a second job to help save up.  Maybe it means you move into a less expensive apartment.  Or maybe it means that you slash your budget for eating out, clothes, and entertainment.

Be Intentional

Often people get into financial trouble because they get caught up in consumerism and spend, spend, spend with little thought about what adds actual, lasting value to their life and without thinking about what their present choices will mean for their future selves.  Being intentional is the opposite of being thoughtless, impulsive, foolish, careless, or on autopilot.

Below are three ways you can begin being more intentional with your finances.

  1. Give your future a reality check.  Ask yourself how well you are planning for your future.
    • Do you have enough savings to cover your car/homeowner/health insurance deductible?
    • Can you cover an emergency car repair without going in to debt?
    • What would happen if you were unemployed for one month?  Two months? Three months?
    • Do you have a plan to save for retirement?
    • Do you understand what your retirement will look like with your current retirement saving level?
  2. Do a budget check.  Review each of your budget categories and determine two things:
    • Could I cut back in this category if I had to?  By how much?
    • How much value do I get out of this?  Rank the budget categories that you identified as able to be cut in order from easiest/least painful to cut to hardest/most painful to cut.  Now you have an idea of your money preferences.
  3. Before you spend money, ask yourself three questions:
    • What are two other ways I could use this money?
    • Would I rather use this money for saving or for one of the other options?
    • Does how I want to use this money add real value or happiness to my life?

Intentionally Avoid Financial Unhappiness

When you are intentional with your money, you maximize your money and your life.  You are able to make solid financial choices and accomplish goals because you make decisions that take into account your entire financial situation.  You create and follow a financial plan.  Because you are intentional, you are better able to reign in consumerism and avoid debt.  Debt, especially consumer debt like credit card debt, is one of the main drivers of financial stress.  Through your intentional handling of your finances, you can avoid financial unhappiness.  With time and effort, you can achieve financial peace of mind and security.


What helps you be more intentional with your money?  What trade offs do you make with your money?  Comment below!


The Most Important Financial Number You’re Probably Not Tracking

So, you’re starting to make better financial decisions.  Maybe you are following a budget, saving more, or working on paying down debt.  How do you stay motivated?  How do you know what difference it makes in your overall financial wellbeing?  It’s simple – track your net worth!

In my MBA program, one of the sayings drilled into me is that you can’t manage what you don’t measure and that you only improve what you measure.  This is true in business as well as in your personal finances.  Using a budgeting system is essential to financial wellbeing.  However, there is another financial number – the MOST important financial number – that is often overlooked.  The number one, most important financial number to track is your net worth.

What is “net worth?”

Net Worth Formula

Your net worth is, simply put, the sum of everything you own minus everything you owe.  To calculate your net worth, first, you must add the balances of all accounts (cash, checking, savings, CD, investments, retirement, etc.) plus all assets (house, car, etc.).  This gives you the value of everything you own.

Side note:  What assets should be included in the net worth calculation?  For example, should I include my expensive camera, a wedding ring, or my beanie baby collection?  The rule of thumb is to only include items that are relatively easy to sell in a short period of time, that you are willing to sell, and that have an easily identifiable resale value.

The next step is to add up all debts (credit cards, car loans, student loans, mortgage, the personal loan from your uncle Bill, etc.) to arrive at the total value of everything you owe.  Finally, take the total value of what you own and subtract the total value of what you owe to arrive at your net worth.

Man Dont Panic

The younger you are, and the more debt you have, the more likely you are to have a negative net worth.  If this is you – don’t panic!!  This is simply your starting point.  The current value of your net worth is much less important than the change in your net worth over time.  Is your net worth growing or shrinking each month?  Is it steadily growing each year or does it grow and shrink sporadically?

Why is my net worth the most important financial number?

Your net worth is the most important financial number because it gives you a birds-eye view of your finances.  Your net worth is also affected by every financial decision you make.  If you pay down your debt, you are decreasing the amount you owe and thus your net worth will go up.  If you save more money for retirement, the amount you own will go up, which also increases your net worth.

When I was paying down credit card debt, it was sometimes discouraging because it was hard to see the impact that paying down debt had on my overall financial picture.  Sometimes, I would have preferred putting $100 extra in savings so I could see my account balances rise.  I was putting every penny I had to pay off my credit cards so I went a few years with fairly small balances in my checking and savings accounts (just enough for a small emergency fund).  It was frustrating to work so hard on my finances and feel like I never had any more money.  I was judging my financial wellbeing based on the money in my checking and savings account instead of based on my overall financial picture.


When looking at your finances from a net worth standpoint, you see your net worth rise when you save more as well as when you pay off debt.  Consider the following scenario:

  • Current Net Worth:  -$35,246
  • Monthly Savings:  $300
  • Student Loan Payment:  $450
  • Retirement Contribution:  $400
  • Mortgage Payment (Principal portion only):  $350
  • New Net Worth:  -$33,746

In this scenario, the person may only be putting $300 in a savings account.  However, the net worth will increase with each of the actions.  The total impact of each of these is an increase in the net worth by $1,500.

How to track your net worth

I recommend tracking your net worth at least quarterly, but I think monthly is better.  Each month you will see the impact of your financial decisions.  You’ll be better able to spot trends, stay more motivated as you see positive changes, and be able to quickly identify sources of concern if your net worth begins to dip.

Your net worth will fluctuate somewhat depending on bill cycles, large irregular expenditures (for example, semi-annual or annual insurance premium or property taxes), and fluctuations in asset values and investments.  However, over time you will see the overall trend.

I use a simple spreadsheet to track my net worth, and I update it at the end of each month as I finalize the budget for the next month.  The first column lists all my accounts, assets and debts.  Then there is one column for each month where I enter the current value for each item.  A simple example spreadsheet is shown below.

Net Worth Example Spreadsheet

I also use the app/website Personal Capital and love it.  It makes real-time tracking much easier!  However, I keep my spreadsheet around because I update it at the same time every month – and because I’m a nerd and love spreadsheets.

Additional Details

In addition to tracking my overall net worth, I like to track a few other numbers.  I think of them as subsets of my net worth.  Descriptions of these numbers are below.  If you are a nerd like me, you may find these numbers interesting.

  1. Cash Balance.  This is my cash, checking and savings total.
  2. Net Cash.  This the sum of cash, checking, and savings minus all credit card debt.
  3. Non-Retirement Net Worth.  This is calculated the same as the regular net worth, except that it excludes any retirement accounts.
  4. Home Profit.  This is the value of my home minus all amounts owed as well as the estimated cost of selling.  I take the current estimated market value minus the mortgage balance and the HELOC balance, then also subtract 9% of the current estimated market value (this represents the estimated cost to sell the house).

You only manage what you track

Your net worth is easily the most important financial number as it reflects the sum of all your financial decisions.  Tracking your net worth provides you with a view of the trend of your overall finances.  Every positive financial step you take will help raise your net worth a little at a time.  Remember, don’t panic if your net worth is negative – even if it is really negative.  The actual value of your net worth matters a lot less than the direction of change in your net worth.  Stick with your positive financial choices and the change in your net worth will reflect your hard work!

Do you use a spreadsheet or software/app/website for tracking?  Have you tracked your net worth before?  Why or why not?  Comment and let me know – especially if you have a great tool you recommend.