Updated on 01.31.07

31 Days To Fix Your Finances, Day 15: Coming In Under Budget And An Emergency Fund

Trent Hamm

The Simple Dollar offers a month-long plan for fixing your finances. All you need is an open mind and an hour each day.

When you get rolling under the plan you’ve developed, you’ll discover that (almost always) you’ll come in under budget for the month if you stick to your guns on the nonessential spending. This is a good thing, of course, as it means that you’re being financially responsible.

So what do I do with that excess? Obviously, it’s not a big help if your checking account doesn’t earn any interest and the balance just builds up over time, as it makes it much easier to simply spend it on unnecessary things. Instead, you should move it somewhere where it’s accessible, it earns a little bit, and it’s out of sight and out of mind until you need it. Here’s the game plan.

First, don’t give into temptation and spend it – yet. Although it might seem that this money is a “reward” for being fiscally responsible, it’s actually just a result of the flexible budget you made. The flexibility actually has a purpose: protecting you from the unforeseen events that can happen in the future.

Second, get a high-interest savings account in which to put the money. Why get another account? Several separate accounts make it easy to partition your money and keep money for different purposes separate from each other. This money has a very specific purpose, so we’ll keep it separate.

Now, at the end of each month when you have extra money left over from your budget, just deposit it into this new account. This account will serve as your emergency fund. Every once in a while, life will deal you a hand that is very difficult to play within the constraints of your monthly budget: a car breakdown, medical needs, or so forth. This fund will make it possible to just roll through those emergencies without breaking a sweat – just go withdraw the money you need to cover the emergency and it’s taken care of.

How big should this emergency fund get? You should let your emergency fund continue to grow with budget leftovers until you have six months worth of take-home salary in it. After that, you have some options: I’d recommend paying off more debt with your budget leftovers at that point.

Remember, this is not an account for big-ticket purchases! If you’re tempted to use it to buy an LCD television, you should instead reevaluate what your goals are and perhaps change one of those if you feel that a big screen television is more in line with your values. Leave this money alone; some day, you will be incredibly glad you did (like when your son comes home with a dented-up car, for example).

Tomorrow, we’ll begin looking through your expenses for places to trim out more fat without altering your lifestyle.

Ready? Let’s continue on to the next day.

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  1. John says:

    Another option for an emergency fund is a Roth IRA. In any given year, you can withdraw your contributions (but not your earnings) at any time, penalty free. Furthermore, any money you make in your Roth IRA is tax-free (as long as you season it in the IRA for five years). Contrast that to a savings account — you pay taxes on any interest earned.

    You can put your money into an IRA and most brokerages will pay some amount of interest. You can also pick very safe mutual funds/money market accounts to put your “emergency funds” into. This pretty much ensures that your money will make the best possible “safe” interest rate while avoiding taxes.

  2. deymiss caraballo says:

    I have been reading your column for a while and really like what you write about. i have been trying to do all these things for several years now. recently, we acquired a piece of property and as a result incurred debt. Our savings are low (almost non-existing) and we have some credit card debt. My inclination is always to put the money into the credit cards or the debt instead of the savings account. I was re-reading your column to get guidance…should i save especially now with the economic climate or should i put all of our excess into our debt. or should i do both? I was trying to remember if it was you who saved the money until you had a good amount and then paid off the debt completely. I would appreciate your input. Thank you in advance for your comment.

  3. Sean says:

    Pay off debt, pay off debt, pay off debt.

  4. Howdy! This blog post couldn’t be written any better! Looking through this article reminds me of my previous roommate! He constantly kept preaching about this. I am going to forward this information to him. Fairly certain he’s going to have a very good read.
    Thanks for sharing!

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