Emergency Funds Good For More Than Just When You Lose Your Job

Besides losing your job, another argument for building an emergency fund, an on-hand reserve of several months pay, is “budget breakdown.”

Recently we somehow messed up our personal finance spreadsheet and the formula for one month extended to the next, including the next month’s pay.. Looking only at the balances, we did an electronic transfer to pay down the large credit card bill from upgrading our computer setup…

After fixing the formula, we realized that we would be bouncing a few checks unless we acted fast. Irresponsibly, we recently drained our emergency fund to buy stock, so we were forced to take a credit card cash advance, which, for us, is like admitting to hiring a a prostitute, to cover the short-term liquidity crisis.

So the lesson here is twofold. Emergency funds aren’t piggybanks. Hence the name “emergency.” Is the desire to buy more stock an “emergency?” No. So don’t touch it. And even the best budgeting system can break down, so never let it replace your brain completely. Gee, that number seems unusually large. Gee, that number seems unusually small. Maybe I should investigate it to make sure. Think.

(Photo: Tom Simpson)

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  1. Yep says:

    Even worse – draining your emergency account to hire a prostitute.

    What’s the rule of thumb on emergency funds? I hear everything from 3 months to 6 months. And do you calculate by typical spending or just core bills, mortgage and food stocks…?

  2. jeffeb3 says:

    I’ve always heard 3-6 months. And it’s take home pay. So if your paycheck (after taxes and everything) is $4000, then you need to keep between $12000 and $24000. I basically like to have 6 months because it makes me feel better when I spend money on other things. I bet I could easily make 3 months last 6 if I lost my job though.

  3. jeffeb3 says:

    oops, that’s $4000/month. should be obvious but…

  4. shoegazer says:

    @Yep: It’s at least 3 months of household income in an instant-access type account. You can have more than that in less-liquid (but higher yielding) savings but they don’t count as emergency funds if you can’t get at them.

    This has recently proved very useful when, due to a confluence of kitchen repairs, visa and lawyer expenses I had to pay up £5000 worth of expenses in a month. Not fun.

  5. Lewis says:

    Right. I do 9-12 months of “current lifestyle” which naturally I would radically adjust if an emergency should happen.

    No shame Ben in having to take a cash advance – tools such as those are not inherently dangerous or bad; I am sure in fact that you repaid the advance rather quickly. (OT, but could you do a cash line of credit attached to your bank account as opposed to a credit card cash advance? In the former case, the rate is typically far better.)

  6. dvdchris says:

    @LewisNYC: You’re right. Get a line of credit set up with your bank instead of dealing with NSF fees and insane interest on credit card cash advances. It’s automatic and far cheaper than having to pay these fees. Never worry about an NSF fee again.

  7. anatak says:

    3-6 months of expenses is how we’ve always done it. And expenses =/= income. Expenses should be < income. Enough math.

    “Irresponsibly, we recently drained our emergency fund to buy stock…”

    Ouch! Yeah, part of setting up the Emergency fund is determining and agreeing upon what exactly is an “emergency”.

    Also, part of the budgeting process must be that one of you creates that month’s budget and the other reviews it. That will help bring little errors like “somehow our income doubled this month” to light.

  8. tedyc03 says:

    Why take a cash advance? Why not liquidate the stock?