Saving an emergency fund was the first things we did when we started paying back our debt.
The concept made a lot of sense to me: an emergency fund creates a cushion in your budget that helps you avoid accumulating more debt when unexpected situations arise. Sign me up!
But when I set out to start saving, I quickly realized there are very different opinions about the right amount to have in your account while you’re paying off debt.
For many, $1K is the standard and I can understand why. Keeping your emergency fund small means more money is available to pay off debt. More money to debt means you pay off the debt faster. It makes sense.
But, as the title suggestions, I don’t think $1K is enough for an emergency fund.
The $1K emergency fund
One of the most popular proponents of the $1K emergency fund is Dave Ramsey. He believes in it so much that he made it the first step in his seven baby steps to financial freedom.
The idea behind the $1K emergency fund is that it is designed to be a starter emergency fund. This is a fund that, once saved, is designed to help you avoid adding more debt as you move on to the next baby step, paying off all your non-mortgage debt. When your debt is paid off, the idea is that you beef up this account to hold three to six months of expenses. This becomes your fully-funded emergency fund.
This plan has helped SO many people find financial freedom. Even though we don’t follow this plan exactly (I wrote about why here), I am glad it has worked well for so many people.
But just like Dave’s plan isn’t for everyone, he isn’t the only one with an opinion on how much should be in your emergency fund. For example, Suze Orman says you should have that fully-funded emergency fund first, then focus on paying back your debt.
At this point in our journey, I think that is a more realistic approach.
Our Emergency Fund
We keep a $5K emergency fund.
This is money we have set aside in an account that we do. not. touch. unless it’s an actual emergency. An emergency, in my opinion, is an expense that is unexpected, something we could not have planned for.
This money is kept separate from the rest of our money (although I really do need to research better options for where to house it…). We have used money from this account a couple times – in those cases, we have either transferred funds and waited for them to clear or charged them, then paid off our credit cards with the money once it clears.
If we use money from this account, getting it back to $5K is a priority.
A $5K emergency fund wouldn’t get us through eight months, like Orman suggests, but it would keep us afloat for at least two or three months if needed.
I sincerely hope we never need to use this money for anything beyond expenses like unplanned car repairs.
Why $1K wasn’t enough for us – and why it might not be enough for you
There are a few reasons why we opted to go for a $5K emergency fund as opposed to $1K.
A $1K emergency wouldn’t get us very far
If we both lost our jobs tomorrow, $1K would pay our rent – and that’s all. It would not pay for groceries or gas and we would not be able to make even the minimum payment on the student loan. While I like to think this scenario is unlikely, you really never know. Having a small cushion available in the event of something like this helps give me peace of mind.
Of course, depending on how the job loss came about, unemployment could be an option. Still, that does take time to process. I don’t want to put us in a situation like that. Going with $5K gives us a little breathing room if we need it.
Question(s) to ask: How far would $1K get you? Would you be able to cover all your bills for more than one month with only $1K in the bank? If the answer is no, you might want to consider a larger emergency fund.
Emergencies are unpredictable
Life happens – and it doesn’t always happen when you want it to.
By their very nature, emergencies are unpredictable and hard to plan for – and that certainly applies to the financial end of things.
And the bill does not stop adding up just because you’ve topped out at $1K.
While we have been very lucky that most scenarios which merited use of our emergency fund have been relatively inexpensive, that won’t always be the case.
For example, there was a big flood in the city where we live last year. It didn’t affect us, but I do have friends and co-workers who were impacted and the clean-up was neither fun nor cheap.
Question(s) to ask: How far would $1K get your if you were suddenly forced from your home due a situation beyond your control? What if your insurance falls short of covering the costs associated with a natural disaster? Depending on how you answer these questions, you may want to consider increasing the balance of your emergency fund.
Emergencies can be more than $1K
What do you do when you’re emergency fund is done – but it doesn’t cover the bill? The answer depends a lot on your personal situation, but it would certainly make it easier to add more debt.
Of course, in that case, at least you don’t add as much debt as you would without the $1K emergency fund. And sure, it is possible to have an emergency come up that $5K won’t cover, either. But personally, I know I am more likely to be able to cover an emergency without adding to my debt with $5K in the bank than I am with only $1K.
Also, while I don’t take it as gospel, it has been said that bad things happen in threes. A $1K emergency fund isn’t going to be much help if your car needs an urgent repair, your basem*nt floods and then your dog needs an emergency vet trip.
Question(s) to ask: What would happen if you ran out of emergency fund before the final bill was tallied? How would you cover the extra? How would you deal with multiple, subsequent emergencies?
So…how big should your emergency fund be?
Like I said the last time I wrote about this, it really does depend on the person.
There are some who can make the $1K emergency fund work while paying back debt. There’s evidence to support that. If you’re one of those people, that’s awesome.
But when it comes to your own emergency fund, I would strongly suggest assessing your personal situation and using that to guide the decision about how much to set aside.
Final Thoughts
Personal finance is personal. That said, I don’t think a $1K emergency fund is enough for most people. The unpredictable nature of life paired with the cost of…well, life, makes it hard for me to get behind the idea of only having $1K in the bank while we pay off debt. We feel much more comfortable with $5K for the time being.
Do you have an emergency fund? How much do you keep in it?
