Emergency fund: How much is enough?

Until we hit our own financial crisis in 2007, I’d never even heard the term “emergency fund.” Then I started combing through personal finance sites and blogs, looking for ideas, encouragement and inspiration. The term was everywhere! Every financial guru, every regular person who watches their finances carefully, every advice article, mentioned having an emergency fund as a top priority.

I remember someone in the blogger community I frequent asking where everyone kept their emergency fund and how much it was, and I responded that my credit cards were my emergency fund. Even for a while after getting on the financial straight and narrow, I avoided putting money aside for emergencies, preferring to put every extra penny toward attacking our rather massive credit-card and consumer-debt burden. (We lucked out and did not have to add to our credit cards during that risky period.)

But we wanted to have children, and we didn’t want to wait as long as it would take to be completely free of consumer debt. So when I started trying to get pregnant, we started diverting most extra money toward savings instead of credit cards. It hurt a bit to see our progress slow, but I wanted to make sure we wouldn’t lose progress if something happened during the pregnancy or early years of parenthood.

So we basically saved whatever we could; I didn’t have a specific goal in mind because I wasn’t at all sure what would be a safe amount. I think we ended up between $6,000 and $7,000 before the baby was born — and luckily nothing too expensive and unexpected happened, so we managed to hold onto most of it and continue to build our fund.

But then I wasn’t sure where to stop. I had lots of other plans for our money, so I didn’t want to just keep shoveling it into savings. I read lots of different viewpoints. Some financial gurus say to keep just $1,000 in an emergency fund, and devote all other money to debt repayment until you’re debt-free except for mortgage. That didn’t sit well with me, because even after we paid off all our credit card and personal debts, we had tens of thousands of student loans left to pay off. And we wanted to have another baby. Were we really going to risk having a mere $1,000 in emergency money with two young kids?

Other sources advised that you should save the equivalent of three months’ worth of expenses — or six, or nine, or even a full year’s. Which should I choose? And, just as important, how do you determine what constitutes a month’s worth of expenses anyway?

I settled on three months, since I still think I should be paying off debt faster vs. just socking money away. Then I sat down with my budget, which you’ve already seen an example of. I made a copy and started deleting “wants” and anything else I thought we could do without. Spending money, travel, Xmas and birthday presents, cable, charitable donations, housecleaning, Netflix, retirement contributions, diaper service, our CSA share — those were easy choices because they were optional, or could at least be suspended during a short-term loss of income. Daycare costs — naturally they’d be eliminated too if all of us lost our jobs. Federal student loans could be deferred during a time of hardship, but private loans would need to be kept up on.

A couple things were easy “keeps.” Mortgage, condo dues and homeowner’s insurance. This whole emergency budget idea seemed pretty simple so far.

But then things got more complicated. What about haircuts? None of us can cut our own hair, and we’d want to look presentable for job-hunting. I decided to cut down the frequency of haircuts but keep it in the budget. Internet? Again, we could really use it for job-hunting. But then again, there’s always the library, and free Wi-Fi in certain establishments. I cut it. Cell phones? We’re on the cheapest-possible prepaid plans, and we’d definitely need those to field interview calls. Cell phones stayed. Groceries? If we really pared down on certain items and cheaped out on others, we could cut back temporarily, so I reduced that item.

Then I started thinking about the actual logistics, in the unlikely (but possible) case we all lost our jobs at the same time. Our bus passes are paid-for, or greatly reduced, by work and school. We have to start paying our own way. So bus passes got added into our emergency budget. Then there was the biggie: health insurance! Currently we and our kids are all covered by employer-sponsored plans, and the portion we pay is taken directly from our paycheck, so even that’s not part of our regular budget.

We’d definitely want to stay insured. A layoff could be a stumbling-block, but a serious injury or illness while uninsured could be catastrophic. So I added $400 per adult and $200 per child to our emergency budget to try and get healthcare. I’d gotten our emergency budget down to about $2500 per month, but suddenly it ballooned to over $4,000 per month!

So, that’s my baseline for a month’s worth of emergency spending. I bet no two people calculate it exactly the same way, but it’s what I came up with. I have three months’ worth saved, and when I worry that I should have more months saved for than that, I comfort myself with the thought that all of us losing our jobs at once is an extremely remote scenario. Chances are one or two of us would keep our jobs, and the laid-off would receive unemployment compensation, and we could stretch our emergency funds much longer.

But I still feel this is a cloudy and mysterious part of personal finance. How do you handle it?

Stormy weather

Stormy weather

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