We used to have a $20,000 Emergency Fund. This was back in 2009, before Little Stapler arrived. We were both working full time, spending little, and banking $3,000 a month.
No, that’s not a typo: We saved $3,000 a month!
I like to think of them as the financial glory days. Although I do wish that we were socking away that savings at our student loan debt, I appreciate that we were able to pay cash for our second car — a used 2006 Toyota Prius. Until that point, we had been commuting together in our 1999 Toyota Corolla. We bought the second car in anticipation of Little Stapler’s arrival.
That’s right: We were DINKs (Double Income, No Kids). We earned about $130,000 a year. We lived in an 800 square foot house and drove a 7-year-old car. That’s how to save $3,000 a month!
Nowadays, we have doubled our square footage (and the number of people living in it!) and drive two cars. Our daycare bill hovers just under $2,000 a month. We strive to put $1,000 a month into a savings account so we can eventually replace the 17-year-old Corolla. Some months, the money earmarked for savings goes, instead, to pay for an unexpected expense — a medical bill, car repair, or unplanned home improvement.
Where did our Emergency Fund go? We spent it. And I don’t miss it.
After paying cash for the Prius, we kept $10,000 in a low interest savings account for years without tapping into it for an emergency. We were able to absorb most financial hiccups with our checking account, so we decided that our E Fund was doing us very little good. We deposited it into a Roth IRA, which we eventually used to buy our house. (more on that later)
Do You Need an Emergency Fund?
Consider using your emergency funds to pay down your debt if:
- You have debt accruing more interest than your E Fund is earning
- You have health, auto, life, disability, and homeowners insurance
- You have an excellent credit score and would qualify for more credit
- You can absorb up to $1,000 of irregular expenses per month (either because of your savings plan or by keeping $1,000 in your E Fund)
- Your monthly income is reliable and does not fluctuate wildly
- You have stable employment that also qualifies you for unemployment benefits if laid off
We have decided that we don’t want an emergency fund.
Why? Because there are very few truly unanticipated financial emergencies that cannot be paid with credit.
We drive cars that are over a decade old, so we fully anticipate that they may need significant repairs all of a sudden. If they do, we can put it on our credit card and probably be able to pay that off the next month (remember that $1,000 of monthly savings?). If they need more than $1,000 of repairs and we haven’t saved enough to buy a car outright, we might very well replace the car — and finance it. Ideal? No. But we would rather get a guaranteed return on our money.
Money sitting in a savings account earns very little interest. Our loans accrue 2 to 5.5% interest annually. By paying down the loans that are guaranteed to accrue interest, we are reaping a guaranteed return on our loan payoff.
There are other, fully anticipated, expenses in the upcoming year. We don’t know the particulars about the expenses, but know that we will have to pay at least $5,000 in medical bills (we have a high deductible health insurance plan) and we will probably have to make some repairs to our home. Although we slowly deposit money into a Health Savings Account (HSA), we can absorb up to $1,000 per month in expenses. Plus, many medical providers will extend a no-interest payment plan for those who truly cannot pay immediately. As for home improvements: we can charge expenses over $1,000 to a credit card and pay it off by $1,000 per month.
It’s important to keep in mind that we have health, auto, life, disability, and homeowners insurance. Those policies cover the most devastating of likely emergencies. If we were skating through life without any of these policies, I would want a much more robust emergency fund. They are essential pieces to our financial safety net.
Honestly, can you imagine any scenario when you need cash immediately and can’t rely on credit? Heck, people will even lend you money to post bond. There is credit available for every scenario that I can think of. Namely:
- Credit cards — for balances you can pay off quickly
- Home Equity Loans — if you have enough equity in your home
- Auto Loans — if you need to replace your car
- Personal Loans — sometimes at 0% for certain home energy improvements and, typically, for certain consumer debts (although the odds of buying new furniture on an “emergency” basis are slim).
Of course, you don’t want to rely on credit for everyday expenses. We’re talking about emergencies. Those expenses that come around once every few years (if at all).
There is also an emotional element to E Funds, which I would be remiss to ignore. If you would not feel comfortable without $10,000 in the bank, then you should strive to achieve your comfort level. Even if you have a $10,000 debt that accrues 5% interest annually, you are paying that $500 a year to have the peace of mind that comes with an E Fund, which is extremely valuable and varies from person to person.
Where Should You Put Your Emergency Fund?
If you want the security that comes from a robust E Fund, consider placing it in a Roth IRA. That way, it’s there if you need it and it’s there for your retirement if you don’t.
Although all investments come with elements of risk, you can choose very risk averse investments for your E Fund — even to keep it in cash if you like. To do that, you need to open up a Roth IRA with a bank. (The purpose of tax-free earnings, however, is highly diminished if you’re not earning anything with the money — but place it in cash for a later time, when you are more comfortable investing the funds.)
If you don’t already know this, you can withdraw your Roth IRA contributions without a tax penalty. There are specific guidelines for this, which I outlined here, but before you withdraw the funds I recommend that you go straight to the source, and read the IRS regulations.
For years, our Roth IRAs were our E Fund. They earned us money while they waited for a dire emergency to pop up. When a financial snafu did arise, however, we never tapped into the Roth IRAs because we couldn’t replace the lost opportunity. For example, if we withdrew $5,000 of our 2008 contribution, we couldn’t later deposit $5,000 as a 2008 contribution and then deposit $5,000 for the current year. You can only deposit money into a Roth IRA for the current year or, if it’s before April 15, the prior year. If you withdrew $5,000 of 2008’s contribution, the opportunity to invest that $5,000 tax-free is gone.
Placing your E Fund in a Roth IRA adds another layer of “don’t touch this money unless absolutely necessary.” Yet, if it is necessary, the money is there.
Do you have an Emergency Fund? How did you figure out how much to put in your E Fund?
image by hin255, via freedigitalphotos.net
How would you handle a job loss without an e-fund? We carried a $1k e-fund while paying off debt, but bumped it up after becoming debt free. We originally saved about 6 months of budget, but thinking of increasing to 1 year.
That’s a good question. First, we have IRA contributions that we haven’t withdrawn, so we could use those if necessary. But I don’t anticipate it would be necessary because we wouldn’t pay for daycare (at $2,000/month) if I weren’t working and there are other cost-cutting measures we could take to make up the rest. Mr. Stapler’s job and his career field are very stable, so that’s not a concern.
This is definitely a different perspective compared to most people in the PF world. I love having an emergency fund since I’m self-employed though and the only earner for our family of 4. Without it I don’t think I’d sleep at night.
If I were in your shoes, I would be boosting our E Fund for sure! It’s helpful that my husband has such a stable job and I’m no longer freelancing. The income swings when freelancing definitely made me a little nervous!
I absolutely agree with you on this one. When I was younger and not as financially stable, I had a dedicated “emergency fund.” But now, I can’t say that I really have a dedicated account labeled “emergency fund.” Pretty much my entire portfolio is an emergency fund in the case of a REAL emergency. I do have a buffer in my checking/savings account to pay for unexpected costs and if that is not enough, there is a credit card (which I will pay off the entire balance before interest is incurred). I also consider by Roth as an emergency fund. I haven’t had to use it and hope I don’t have to. Once I have a decent buffer, I’d rather try and contribute as much as I can to the Roth and/or 401k rather than hoarding in an emergency fund which is likely to be in a savings account which has measly returns
Wow I never thought about it that way. We have an emergency fund – but I am self employed and having anything on credit makes me nervous. What happens if the emergency tapped all my resources out? I guess it’s a bit of a fear based response. Thanks for the thought provoking article.
When I didn’t have a salary, I was a lot more nervous about not having a hefty cushion in the bank. At this point, it’s more about having the money to make some capital improvements without using credit — that’s my biggest motivator to put money in a savings account.
We’re lucky that we’re in a situation of financial stability that “emergencies” aren’t a problem for us to cover, in cash or in credit, if necessary.
I’ve come to think of ours as a low-return-but-low-risk cash investment that, if we lost our income, we’d be able to continue our lives without a significant change to our lifestyle. I guess I consider it more of a cushion than a fund for emergencies.