I often get told from people who first find my site and/or videos that they are greatly relieved there’s someone trying to simplify the highly complex federal retirement system.
I always love these encouragements and it spurs me on to produce even more content.
One of the most over-complicated steps in reaching financial freedom is the emergency fund.
If you haven’t been told yet, let me be the first,
You Need an Emergency Fund!
I can think of very few if any cases in which I would suggest otherwise.
Seriously, I don’t know where this idea became so convoluted, but I’m here today to give you:
- reasons why you need an emergency fund,
- how much to put in an emergency fund,
- where to put your emergency fund,
- and when it’s okay to actually use your emergency fund.
Sounds fun, right?
Why YOU Need an Emergency Fund
Here’s a tip, not just for financial planning and your career as a federal employee, but in every area of life: build a proper foundation.
A proper foundation means you make sure you’ve done the basics well BEFORE moving to the shiny, more advanced things.
What’s an example?
Making sure you have beneficiaries tied to your TSP account before attempting to time the market.
You’d be amazed how often this happens. And in all reality, it’s not all that surprising if you think about it.
Millions of Americans go home after work, sit back and watch the television, listening to the talking heads yelling SELL, SELL, SELL or BUY, BUY, BUY. The harsh reality of the financial world, however, is that in the majority of cases, the person who is consistent over the long-term will win out.
Meaning, stop putting so much effort into trying to time the stock market with your TSP account, and spend more time making sure you have the basics covered.
AND, what’s the first step you should do?
Making sure you have money set aside in something that is highly liquid in case of an emergency. Also known as a rainy day fund.
Think about this, what happens if you’re living paycheck to paycheck like so many others and you get in a car wreck. Oh, and it’s your fault?
You’ll probably have to turn to some sort of financing. Either via a credit card or some other means. That’s not a position you want to be in and it’s not a position I want you to be in either.
If you’re not convinced yet, here’s a few other reasons for an emergency fund:
- You lose your job (although it doesn’t happen a whole lot in the federal sector, it is possible.)
- The property tax bill you owe is due
- You suddenly have a debilitating illness
- You or your spouse is unexpectantly pregnant
- Your daughter needs an emergency medical treatment
- A relative has to move in with you unexpectantly
- You’re evicted from your apartment
- You get a divorce
- You’re sued
These are just a few reasons to have an emergency fund.
Although, to me, one of the main reasons to have an emergency fund is for peace of mind. It’s difficult going to sleep at night if you’re unsure how you’d make it if something out of your control happened.
Now that you’ve seen the light and agree that it’s probably in your best interest to set some money aside, the next question inevitably is,
So, How Much Should I Put in My Emergency Fund?
Before I drop the bomb on how much you really need in your emergency fund, I’ll just give you a basic idea.
The goal for you who currently have no emergency fund should be to accumulate $1,000.
This is simply a starting point and a way to get a quick small win in from which you can build the next from.
The $1,000 you’re going to be setting aside should be done as QUICKLY as possible. You don’t want to waste any time while your motivation is still high. Do everything you can think of like… hold a garage sale, sell those trading cards that sit in your attic, work extra hours, I don’t care how it’s done, simply make it happen.
For many of you, you’ll find that raising $1,000 is easier than you initially anticipated. For others, it may be more difficult, but either way, work to make it happen.
Once you reach the almighty $1,000 mark, proceed to give yourself a pat on the back.
But, you’re not done yet!
$1,000 is merely the starting point to something much more.
Once you’ve saved the $1,000 dollars, have all of your high-interest rate debt paid down (10% or higher,) and are contributing 5% to your TSP to earn the highest available match, the next step is to increase your emergency fund.
Ideally, you should have 3 to 6 months worth of expenses saved in a highly liquid account.
Now, I know what your thinking, “But Cooper, I want my money to earn interest, not just sit somewhere.”
Well, your money will technically earn SOME interest, although not a whole lot. But, the goal of an emergency fund is not to gain more money, but rather protect yourself in the event of an unexpected disaster.
This is financial planning 101. Protect yourself before trying to achieve higher returns, because those higher returns won’t matter much if you can’t afford to pay your bills.
Where do I put my Emergency Fund?
So, you’ve decided to take my advice and set some money aside in case of an emergency.
Good for you! But, where will you put that money?
This is a rather easy answer. As illustrated previously, we want this money to be in an account that is highly liquid, meaning easy to withdraw from. The easiest places to withdraw from is most likely going to be a bank.
I would look for a high-interest savings account, somewhere around 1%, or a money market account.
You could even use a checking account, but the interest earned is going to be lower.
One thing that needs to be made clear, however, is that this should not be mixed in with your everyday checking account. We don’t want to make it easy for you to overspend in your day-to-day life because there is more money in your account. Separating the emergency fund from the rest of your checking account will allow the emergency fund truly be set aside.
When can I use My Emergency Fund?
This may seem like a silly question to some, but it’s one I’ve actually gotten quite often.
The emergency fund should be used for emergencies ONLY.
Now, what defines an emergency is where people really get confused.
In my opinion, this is mostly a personal thing, but just to give you an idea, here’s some things that I think should not be considered emergencies:
- You need new clothes
- You want to go on a vacation
- You want a newer, shinier vehicle
These are all great things to purchase, however, this isn’t what the emergency fund is for. Save money elsewhere for these purchases; not your emergency fund.
Just use your best common sense and when in doubt, think to yourself, “what would Cooper have me do?” 😉
Do not, I repeat, do not let the basic things get pushed to the side in favor of the most exciting things.
Granted, I love geeking out on TSP allocations as much as anyone, but what’s more important than that is making sure you and your family are safe in the event of an emergency.
And if there’s one thing this life has taught me, it’s not if there will be an emergency, it’s when.