There are so many things you’re doing with your money – maybe you’re focused on a down payment, or scrounging up enough to pay down your debt, or even just hustling to keep yourself in the black. It's hard to even think about saving an additional pile of money just for emergencies. And for some reason, financial experts usually use a name - “emergency fund” - that’s weirdly scary and totally vague.
It doesn’t have to be scary, but there are lots of things in life you just can’t plan for.
Surprise! You get in a fender bender (don’t worry, we all do). Surprise! You very suddenly have to make a flight home for the birth of your new niece (congrats!). So, even if you’re paying down debt, it’s time to start setting aside money in a “life happens” or “slush fund”.
Why do they call it an emergency fund?
That’s a great question. “Emergency fund” is a pretty misleading term because how often do real, true emergencies happen? Hopefully not often. And how can you possibly predict their cost?
Is your best friend’s destination wedding really an emergency? Debatable. But it's something you’ll be glad to have extra cash for!
Basically, you need some money to buffer unanticipated spikes in short-term spending (whether it’s a true emergency or not). So that, instead of feeling bad when you can’t make your budget stretch to accommodate the 15th wedding of the year, your “slush fund” steps in and gives you a hand.
Why do you need one?
It’s pretty simple.
First, you want to avoid putting charges on your credit card that you can’t pay back. If you’re carrying a balance on your credit card, it’s costing you a minimum of 20% in annual interest (about 1.67% per month) and hurts your credit score. So do a quick check – if something unexpected were to happen to you right now (like a procedure that isn’t covered by insurance, or an emergency vet appointment), would you have to put it on your credit card?
Second, you’ll just feel better knowing you have back-up cash if you need it. Erin Lowry, in her book Broke Millennial, suggests that even a small slush fund can ease your mind and lead to smarter financial decisions. Not having one, of course, could have the opposite effect.
How much money do you need in your slush fund?
Despite what you may read in financial blogs, deciding the amount to save is an art, not a science. But here are some things to consider when determining how much to save:
Consideration 1: How stable is your income?
The Instagram influencer, even with an impressive amount of followers, needs more savings than someone with a stable job at a stable company. Why? During slow months, they need cash to lean on, and in busy months, they can stash more away.
For someone with a stable job, the general idea is to aim for 3-6 months of expenses. For someone who is self-employed, aim for 6-9 months worth of expenses.
Consideration 2: What types of expenses do you think might run through this account?
First, what type of fixed or non-negotiable expenses do you have? These are the ones you can’t dial down quickly (like rent, mortgage, car payments, student loans). The more obligations you have, the more you need to save. Even with a generous spouse or parent, if you have multiple mortgages or pieces of debt and something bad happens, you’ll need more cash saved up.
Second, remember that this isn’t a traditional “emergency fund” (fingers crossed one will never happen), but rather a “slush fund” or back-up cash for spikes in spending. So what type of big expenses could you personally run into?
Just the occasional extra-big shopping trip or gift? Then, you probably don’t need too much. Or are you in the stage of life where a bachelor party and 3 weddings will inevitably pop up? You’ll need to dial up your savings. Or, are you a family with several kids (who, on account of their genetics, will likely need braces soon) who owns a home (which could require repairs at any time)? Then you’ll need to think big.
Are you in the stage of life where a bachelor party and 3 weddings will inevitably pop up? You’ll need to dial up your savings.
Just like with the other aspects of your financial health, determining the size of your slush fund really depends on where you’re at in life. People straight out of university know they can probably move back home if something goes wrong—they’re likely earning, saving and spending less than other people so their slush fund can reflect that.
And the corollary is that if you’re sending your baby off to university, you probably want enough in the slush fund that if your little darling needs to move home it’s easy to accommodate for an uptick in expenses without canceling the kid-free vacation you were looking forward to.
Consideration 3: Do you have a financial back-up plan?
Do you have a spouse or partner you can lean on for a little bit if you really need to? What about a parent who’s basement you could crash in for a couple months?
Another saving grace is a side-hustle, low-cost line of credit, or a resume that could get you a job in Silicon Valley at the drop of a hat. Essentially, the greater access to emergency cash you have, the less you’ll need to save up front.
Let’s face it - bonuses disappear, people get sick, and sometimes people need to leave their office job and soul-search for a year in South Asia. A slush fund gives you flexibility and peace of mind in all of these situations.
But what if you have high-interest rate debt?
If you have a credit card balance or student loan that you’re diligently working down, you still need an emergency fund, albeit a smaller one. Aim for a slush fund of around $1,000 to $1,500. After you have this locked down, you should then move on to putting as much money towards your credit card balances as possible (it’s expensive to finance your life at 20%!)
In which account should my slush fund live?
You can make your little slush fund grow into a bigger slush fund with the help of a little interest.
Shop around for the best high interest savings account (“HISA”). Look for one earning at least 2% per year, with no transaction fees, and that’s easily accessible. You’ll want your savings account to be separate from the account you use for day-to-day transactions so you don’t accidentally spend it.
Once you have a shiny new slush fund you’ll be ready to face wedding season, an emergency vet bill, or whatever life throws at you. It feels good to be prepared.
Silvi, CFA is a financial coach. She loves avocado toast, turtles, and genuinely gets a kick out of helping people become confident with their money.