An emergency fund is something that I have been debating over for a while now, and it’s not whether I should keep one or not keep one. I have always been in favor of having an emergency fund, even if I didn’t know that is what I was truly doing. Really I just thought of it as a buffer if I had any car problems, though that’s all an emergency fund basically is, a buffer in case an unexpected expense comes up. The part I had recently been debating over what the size of my emergency fund should be.
I ended up deciding to reduce my emergency fund by $3,500 in September, instead putting that money towards to my student loans. My savings account was earning me 1.25% compared to the guaranteed 7.9% return I got from putting that money towards my student loans instead. That dropped my emergency fund from the $20,000 it had been at to around the $16,500 it is currently sitting at.
Most people would consider this emergency fund to be huge based on my currently salary ($53,000) and I would probably tend to agree, but I do have my reasons for this. In many articles that I have read they suggest building your emergency fund up to $1,000 while paying back debt. My case is slightly different, as I was already saving money during school and had almost $10,000 in my bank account when I graduated. Most of those guides are assuming you have credit card debt and your bank is already down to zero or close to it. So then you save at least $1,000 and put all your free cash to bringing down that debt instead.
This could apply to my situation in reverse, as I do have a pretty steady job and I’m currently living at home for now. My situation is relatively stable, but I just don’t personally feel comfortable with that small of an emergency fund. One major car problem and then another unforeseen incident and that emergency fund is drained. Sure I could probably put that on my credit card and pay it all off before I even have to pay interest, but I just don’t think I feel comfortable with that. I feel like I would need a minimum of at least $5,000 in my account.
So why don’t I just take out the $11,000, put it towards my student loans, and leave around $5,000 as my emergency fund right now? I’ve asked myself this a few times as well and I do have a few answers for it. I plan on maxing out my Roth IRA to whatever the contribution limit is set at for 2014. So that will be at least $5,500 from my emergency fund, dropping me down to around $11,000 at that point. That would leave around $5,000-$6,000 to put towards my loans which is still a hefty amount.
There’s also the fact of moving out as soon as possible which leaves me uncertainty of needing furniture, a deposit, etc. If I need to move out sooner rather than later, I would rather have the extra money in my emergency fund now instead of trying to build it up after the move.
Another school of thought for emergency funds is keeping either three or six months of expenses in your emergency fund. Since I am less risk averse, I tend to favor keeping six months of expenses in my emergency fund and actually six months of income in my emergency fund instead. I see it as if I ever had to use that entire six months – I would be able to cut my spending dramatically and make that six months of income last much longer. I guess the same could be said with six months worth of expenses but this give me an even larger buffer.
If I were to target six months of expenses for my emergency fund I have around $500 worth of fixed expenses based on my budget, plus the minimum of my loan payments which are $515 + $349. That gives me monthly expenses of around $1365 a month. For a six month emergency fund at that rate I would need to keep an emergency fund of about $8,190. My net income is around $2,920 each month so a six month emergency fund using six months of income lands me at an emergency fund of around $17,500.
Realistically I expect my expenses to be around $1700 a month when I move out, with my student loans fully paid off. That gives me an emergency fund of $10,200 of six months of expenses. In my head I’ve been targeting an emergency fund hovering around $15,000 so it actually doesn’t seem too bad where I am currently at. I have my $10,200 emergency fund plus an extra buffer above that for moving in, vacations, etc. I’m also factoring in the drop when I contribute to my Roth IRA for 2014 like I had previously stated. I think I’m in a pretty good place and I feel much better now than I did keeping $20,000+ in my bank account barely earning any interest. Maybe next month I’ll have to take $1,000 from my emergency fund and put that towards my student loans. Then I will leave it where it’s at, make the full contribution to my Roth IRA and start building back up to $15,000. For this entire time, my emergency fund shouldn’t dip below the $10,200 barring any emergencies. But that’s what I have it for, right?
Do you think my emergency fund is too large or that my idea of an emergency fund is just plain crazy? What is your opinion on emergency funds and how much do you set aside?