A Guide to Building an Emergency Fund

Lauren writes to me, lamenting her difficulties with an emergency fund:

I want to have an emergency fund, but every time I think about the amount of money I would have to save, I talk myself out of starting. Instead, I find something else to spend the money on and then something happens and I regret not having that fund.

Over the last couple months, I’ve bought a big pile of DVDs to cure the winter blues. I’ve easily dropped hundreds of dollars on them. A few days ago, my car broke down and the bill was… hundreds of dollars.

Can you help me get started with an emergency fund? I feel like I’m missing something.

At almost the same time, I spied an interesting comment over at Lifehacker:

My goal is the 8 month saving expense plan that Suzie Orman always talks about. To have enough saved up to FULLY pay all expenses for 8 months…it’s really difficult to do, but as long as you keep the focus on it, once it’s accomplished, it’ll be such a good emergency buffer.

Yes, Suze does preach about an eight month emergency fund. It’s a great goal, but it’s a pretty lofty and intimidating one for many people.

It seems that, in this economy, a lot of people are thinking seriously about their emergency funds. Frankly, I think that’s a very good thing – emergency funds are a key part of a healthy personal finance situation. The biggest problem, though, is that it’s intimidatingeight months? That’s a lot of savings.

Trust me, it’s not as hard as it sounds. Three years ago, my wife and I were nearly bankrupt. Today, we have an emergency fund that’s actually larger than Orman’s recommendation – we’d be fine easily through the end of the year if things fell apart. You can do this. Here’s how.

What Is An Emergency Fund?

The first step along the way is to understand what an emergency fund actually is. An emergency fund is cash that you’ve saved up for the sole purpose of helping you maintain your normal life through the emergencies that life hands you. Most of the time, you shouldn’t touch the emergency fund at all – it just sits there earning a bit of interest and waiting until you actually need it. When you lose your job. When an appliance breaks down. When your car needs a repair.

Quite often, people who don’t have an emergency fund see the idea of having to save up money as some form of punishment – after all, money put in a savings account and locked away is money that can’t be used to live, right?

Actually, it’s quite the opposite – having an emergency fund means that you do have room to breathe. You don’t have to completely panic if your car breaks down or if you lose your job or if you suddenly need to replace a hot water heater. Instead of having to find some way to squeeze those expenses onto a credit card or beg a friend for some money to help, you can just pay the bill – no worries.

Another problem that I often hear about when it comes to emergency funds is the temptation that people have to spend the money on things that aren’t emergencies. They see that they’ve built up several hundred dollars in savings and they start thinking about buying a flat panel television or going on a trip – and that’s just what they do.

If you want to have a savings account for big splurges, that’s great – start a “splurge fund,” too, if it makes sense for you. It’s important, though, to just leave the emergency fund completely alone until you need it. Deposit money in there and don’t even look at the balance until an actual emergency occurs.

First Steps with Emergency Funds

Set Your Initial Target Low

So, what’s the first step? Many people bite off a gigantic goal for their emergency fund right off the bat and then find that it’s very hard to get there. Eight months of living expenses is an enormous goal, one that will take years to reach – and along the way, you’re bound to get disheartened.

Instead, one great way to start is to set a goal that’s more reasonable. Make it your initial goal to have an emergency fund of just $250 or $500. That’s a goal that you can reach in just a few months (or even less if you’re in a good income situation) and yet it’s an amount that can make a huge difference when you have an emergency.

Then, break that goal down into smaller pieces. Perhaps you can save $25 a week. If that’s the case, you can have a $250 emergency fund in just ten weeks, so you can set that as your overall goal. Maybe you can put away $40 a week, which would bring you to the $500 goal in three months.

My advice is to not set your savings plan too high at first, either in terms of the amount you can save each week or the overall amount. It should challenge you just a bit, but not be a number that’s simply unreachable.

Find Your Breathing Room

“That’s great,” you’re thinking, “but where am I going to come up with $25 a week? I barely make ends meet now.”

That’s a pretty typical sentiment from people who are just beginning to turn their financial situation around. There are a lot of ways to come up with extra money throughout the month.

Ways to Get Your Emergency Fund Started

Request a rate reduction on your credit cards

If you’re carrying a credit card balance, getting your interest rate reduced will directly save you money each month. Just flip over your credit card, call the number on the back, ask to speak to a supervisor, and simply request that the rate be reduced. Suggest that you’re considering transferring your balance off of the card.
Speaking of which, you might consider transferring that balance to a card with no interest for transfers, which can help you pay off that debt faster.

Shop around for better auto insurance and homeowners insurance

Try Progressive, Geico, American Family, State Farm, and AIG, for starters. Just visit their websites, get some quotes, and make a switch.

Install a programmable thermostat – and program it

Pretty simple, actually – it just takes thirty minutes or so and will cut your cooling and heating bill by 20 or 30 percent. Set it so that the air conditioner and/or furnace don’t run while you’re sleeping or at work so that the energy isn’t wasted when no one is around or awake to enjoy it.

Use a list for grocery shopping

Ten minutes of planning before you go will save you at least ten minutes in the store, plus it will help you stay focused on the stuff you actually need, reducing your grocery bill because you’re putting less unnecessary stuff in the cart.

Transform one splurge a month

Instead of going out for an expensive dinner once a month, turn that dinner into a meal prepared at home. You’ll save quite a bit even if you prepare something very fancy in your own kitchen.

Set up a carpool

Find someone that lives fairly close to you that works where you do and start carpooling together. Even if you can only do it a few days a week, you’ll still drastically cut down on your commute costs, plus it will be a lot harder to stop for those impulse splurges.

Use public transportation

Even better, get in the habit of using public transportation for your commuting needs. Most metropolitan areas have surprisingly good public transportation options – and they’re far cheaper (and not all that much more time consuming) than driving yourself.

Get on the bike

Want to start getting in better shape? Only live a mile or two from your work? That’s a perfect situation to get a bike and start using it for the commute instead of wasting your dollars on gas and car maintenance.

Trim unnecessary monthly bills

Are you subscribing to Netflix but rarely using it? Cut it! Are you paying for premium cable channels that you never watch? Trim them!


Quite often, when people come into a bit of unexpected money, they tend to spend it without thinking about it. They decide not to stop for coffee, but then choose to spend it later on take out, for example. Instead of spending that “found money,” take some or all of it and immediately put it into your emergency fund. If you have online banking, that’s pretty easy – just transfer it out of your checking account.

The key thing here is to actually save this savings. Instead of just spending the money on something else, put that money away towards your emergency fund. If you find that you’re actually saving more than $50 a week with these tactics, then put more into the emergency fund or increase the amount you’re putting into your retirement savings.

Make It Automatic

So, you’ve trimmed $50 a week from your spending, but now you have this cash sitting there and it’s tempting to spend it on something more exciting than an emergency fund. You’re tempted…

… but you don’t have to be tempted. Instead, you can set up an automatic savings plan to sweep that money straight out of your checking account and into your savings account that you’re using for an emergency fund.

If you haven’t already, I recommend setting up an online savings account at a bank separate than the one you normally do business with for your emergency fund. Doing this not only lets you shop around for a bank with good service and good savings account rates, but it also causes you to put the money in a place that’s not quite so easy to access. You can’t just run to the ATM or stop by the teller window and withdraw cash from it – you have to go to your computer, order a transfer, and wait for a day or two to access the cash, which is more than enough time for you to think carefully about what you’re doing and not get sucked in by impulse.

So, sign up for an online savings account with good service and a solid interest rate (for help, here’s a list of the best savings accounts and best IRA accounts), set up an automatic plan at that bank to sweep $50 (or whatever you can save) a week into that savings account, and then forget about it. Since you’ve already freed up that money through tightening your belt just a bit, this should be quite easy to do.

Set Reasonable Milestones Along the Way

In a few months, you’ll hit that first milestone – and it’ll feel good. That account will have enough money in it that it’ll start earning a bit of interest on its own and you’ll start to feel in control of the situation.

Now’s the time to keep going. Set another goal – an emergency fund of $1,000. Keep that automatic savings plan in place.

Once you reach that goal, aim for a single month’s worth of living expenses. Then two months. Then three. And just keep watching that emergency fund grow.

Obviously, when you do have an emergency, tap that fund. Don’t put your car repair bill on the credit card. Don’t start living on plastic while you’re between jobs. Instead, keep living a financially stable life thanks to your planning ahead.

You might just find that this is a lot of fun – so you might start seeking out more ways to save. Just keep setting goals for yourself and keep pushing yourself just a little to make it there.

Before you know it, your life won’t be disrupted by these kinds of emergencies – and you’ll sleep a lot better at night knowing that.

Trent Hamm

Founder & Columnist

Trent Hamm founded The Simple Dollar in 2006 and still writes a daily column on personal finance. He’s the author of three books published by Simon & Schuster and Financial Times Press, has contributed to Business Insider, US News & World Report, Yahoo Finance, and Lifehacker, and his financial advice has been featured in The New York Times, TIME, Forbes, The Guardian, and elsewhere.