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Planning an Emergency Fund

Aug 17, 2007
You're probably familiar with Murphy's Law: "Whatever can go wrong, will go wrong." It rears its ugly head when we least expect it. That's probably why it's called a law, not a theory. When it comes to personal finances, old Murphy really seems to know when to pile it on. Unexpected expenses and changes in your financial outlook are not a matter of "if", but "when". But all is not lost however, with a little prior planning, you can be prepared for when Murphy comes knocking.

It's a great idea to always have a backup plan, especially when it comes to finances. When times of crisis hit, you'll need an emergency fund to fall back on. Some cash set aside to deal with life's little (or big) detours.

How Much?

That depends, really. What kind of lifestyle do you lead and how much will it costs to maintain that lifestyle if you're out of work? Most experts recommend you save a minimum of three months worth of basic expenses. Figure out your monthly budget (you do have a budget, don't you?), subtract expenses you can live without, then multiply it by the amount of time you think you'll need the fund to rely on.

Keep in mind, three months contingency money should be an absolute minimum. If you're single and have no dependents, the amount is going to be significantly less than if you're married and have three kids. The more people you're financially responsible for, the more money you should plan on socking away in this fund. If you have dependents, look to save at least six month's worth of expenses.

To soften the blow should hard times arrive, look into short term and long term disability insurance like AFLAC. This can help pay some bills while you're out of work.

Where should I put it?

Your emergency fund should be stashed somewhere safe and easily accessible. No, not under your mattress. We're talking an account with liquidity, meaning you can turn that savings into cold, hard cash quickly. Checking accounts, savings accounts or money market accounts are just a few options to look into, though each offer different advantages and disadvantages.

Checking accounts offer little to no interest gain on your savings, and many of them come with monthly fees. Savings accounts are a good option as they can provide a small return on your savings and probably won't charge a fee, but you may incur a penalty if you withdraw a large amount. A money market account is a viable option as it will probably feature a higher interest yield than both a savings and checking account, but your money might be a little more difficult to get to.

You can also go with a Certificate of Deposit (CD). This will give you the highest return for your money, though most CDs require a large amount to open and you have access to the money only when it matures; cashing out before that date will result in stiff fines. That's not going to help when you're already hard up for money.

Whatever method of savings you choose, make sure your emergency fund is somewhere where you won't be tempted to dip into it. Mixing your must have emergency cash with your "saving for a speedboat" account is probably not the best idea.
About the Author
Joseph Kenny writes for the Credit Card Guide, offering views on credit cards in the UK, visit them today for some great 0% balance transfer offers and start clearing credit card debt today.
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