For many years, financial planners have advised people to set aside three to six months of living expenses – enough cash to cover mortgage, car and tax payments, insurance premiums, utility bills, food and gas – which they can easily access in case of an emergency like a job loss or unexpected medical problem.
But in these days of corporate cutbacks, massive layoffs and other economic concerns, the industry has revised its thinking, and experts now recommend a 9 to 12-month safety net.
Sadly, a 2008 survey for the National Foundation for Credit Counseling found that Americans aren’t doing a particularly good job of maintaining even a minimal emergency fund. One-third of those surveyed had absolutely no non-retirement savings, and 57 percent of those who did have an emergency stash didn’t have enough in it. That’s a dangerous position at a time when the average job search is taking 4.5 months, and even those employers who aren’t cutting jobs are cutting back on bonuses, raises, 401(k) matches, insurance coverage and other financial benefits.
A few steps to help consumers protect themselves:
Pay yourself first. Take a certain amount off the top of every paycheck and relegate it to the emergency fund. Most employers and financial institutions will allow multiple direct deposits from a single paycheck, which makes saving even easier.
Keep emergency funds in a safe place. Trying to keep track of regular cash and emergency cash in a single checking account is a recipe for disaster. Choose a separate account – like a bank money-market account or a high-yield savings account – that will hold its value and allow easy, penalty-free access to funds.
Re-evaluate spending. Track your spending by writing down everything you buy for several weeks or a month. It’s likely you’ll find something you can do without – a daily cappuccino, restaurant meals, impulse purchases for the kids. Direct that cash into the emergency fund.
A final word of warning: retirement accounts, credit cards and even home equity lines of credit should not be substitutes for well-funded, easily accessible emergency savings. Retirement accounts carry substantial taxes and penalties for early withdrawals. Credit cards are a temporary fix at best – remember, you have to pay the bill – and many card issuers are actually reducing consumer credit lines, with little or no warning to customers, as a result of the current economic climate. And know that home equity loans aren’t the guaranteed cushion they once were – as home prices drop, some lenders are freezing or reducing lines in some areas of the country.
