Building an Emergency Fund in 2023
The other day I came across a Consumer Affairs article titled: 40% of Americans need a loan right now, nationwide survey finds.
The survey found that 1 in 4 people are reaching for loans to stay afloat. And a big part of it is…you guessed it: rising interest rates and Inflation.
Over 30% of these people seeking loans are solely needing the extra money for basic bills. And almost 20% of respondents need a loan for consolidating high interest debt. I think it’s safe to say that there is a clear impact on people’s finances due to increases in basic spending necessities.
According to the survey, the need to take on debt crossed ALL income brackets. Yes, including people who make above 6 figures.
You know what this tells me? Not enough people have an emergency fund.
Emergency funds are meant for times like this when extra money is needed to make ends meet. Emergency funds aren’t just meant for when your car breaks down or when you chip your front teeth rollerblading. It can also help you during inflationary periods too.
ConsumerAffairs notes that, “consumer prices for all items increased by 6.4% from January 2022 to January 2023, and the prices of food, shelter and energy rose even higher. Fuel oil prices, for example, increased by 27.7%.”
This is not a position I want you to be in.
Because what if, in addition to the debilitating rise in consumer prices, you are confronted with an unforeseen medical or other emergency expense? This would be a true double whammy, compounding the already daunting challenges you could face.
So what can you do about it?
It’s time to take a more intentional look at your budget and make requisite adjustments. I’m sure you deserve $300 in monthly massages. But this may be a time to re-evaluate wants vs needs and start prioritizing a healthy emergency fund.
While this global pandemic has served as a profound catalyst for financial reflection, this financial crisis presents the perfect opportunity to take proactive steps towards a more financially secure future.
So how much do you need to be saving each month for building an emergency fund?
Well, if you don’t have any emergency fund, I would recommend saving as much as you can from your take home pay each month to reach 3-6 months of your necessary living expenses.
For example, if your necessary business expenses are $3,500 per month, then a healthy emergency fund could be between $10,500 (3 months) and $21,000 (6 months).
How can you decide whether you need 3 months or 6 months of necessary expenses? If you live in a dual-income household you could consider 3 months of expenses. If you live in a single household income, then 6 months could be a better fit.
Although this may not be a viable option for everyone, especially if you’re currently living paycheck to paycheck, it is more feasible than you may think. Yes, you may be constrained with insane credit card debt and a modest salary. But, there is a difference between “I can’t save any of my net income because I’m drowning in credit card debt,” and “I can’t save because I need my $300 monthly massages.”
This is where living below your means is imperative. A majority of personal finance decisions are behavioral. This means it’s in your control to live below your means, delay instant gratification, and start creating a larger gap between income and expenses so you can have an emergency fund.
The absence of an emergency fund may constitute a one-way ticket to accumulating more debt.
While I understand that the idea of saving every penny you can of your net income may seem like a lot, please note that this is merely a desirable target I want you to strive towards until it’s fully funded.
Even if you can save a modest 5% per month, that is commendable progress and a starting point that would make you and I both proud. I can also assume that while saving 5% at first may seem challenging, it just might encourage you to want to increase that savings rate even more.
“Okay Leandra, but where do I save this money?”
Easy answer: In a high yield cash account. Wrong answer: A traditional savings account.
With a traditional savings account, you would be lucky to earn 0.01% on your money. With a high yield account, they have higher variable APYs, sometimes around 4%. This outpaces the national average of traditional banks by a significant margin.
Another key benefit of high yield accounts is their flexibility. It’s easy to transfer your funds in and out of the account should an emergency arise and you need access to your funds quickly.
Additionally (and importantly!) you’ll want to choose a high-yield cash account that is FDIC-insured providing a level of security and peace of mind that is highly valued by many savers.
Overall, a high yield account is a powerful tool for those looking to optimize their savings strategies and earn a competitive rate of return on their hard-earned money.
As inflation takes its toll, the value of the dollar continues to decline. Yet, you can stay ahead of the curve by leveraging a high yield account with a higher APY than your traditional savings account. This is a great way to ensure that your money retains some of its purchasing power.
How do you open a High-Yield Cash Account? It’s simple!
I opened mine at Betterment. You can go to www.Betterment.com
At the top, you’ll click on Cash, and then click on High-Yield Cash Account.
Click the blue button that says “Get started”
Click on “Save with a high-yield cash account”
Enter your email address and personal information
Deposit money
Extra credit: Setting up automatic transfers. This is a savvy way to simplify your savings routine and accelerate your emergency fund growth. No need to manually transfer funds each month. Instead, you can sit back and watch your emergency fund grow with ease.
How much should you save in an emergency fund?
While I recommend saving as much as you can from your monthly income to reach your emergency fund goal, how do you know when to stop?
While it's simple to propose a general guideline of 3-6 months of necessary expenses, most people don't know how much that is. If you do, great! Save 3-6 months of those expenses. In my opinion, aiming for $15k-$20k is a good start, but of course this is all contingent on what your monthly expenses look like.
Now what if you already have an emergency fund saved up? Don’t store it under your mattress or in a traditional savings account.
Transfer it to a high yield account! Why not earn more money on your money instead of having it lay dormant in a traditional savings account? It’s simple to transfer and worth it. Think about it. Even better, that interest compounds!
Okay Leandra, what’s the catch?
There is no catch, however it’s important to note the tax implications of your gains. Uncle Sam won’t let you earn interest without taxing it. Rude, I know.
Come tax season, you’ll receive a 1099-INT form, and the interest will be taxed as earned income (added to your total income for the year). If this is news to you, it may be because you haven’t earned enough interest income in your traditional savings account for it to be noticeable during tax time. Paying taxes on income is a GOOD PROBLEM to have. It means you’re earning money.
Want the Spark Notes version of this entire blog post?
Start building your emergency fund as soon as you can, and consider saving your money in a high-yield account instead of your traditional savings account.
Cheers,
LP
