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5 Things They Don’t Tell You About Emergency Funds

If you’ve heard anything about emergency funds, you probably know one thing: you need one. An emergency fund is your cash cushion, protecting you from the unexpected. Whether that’s a surprise car repair or unpaid sick days, you can fall back on your emergency savings to help you in a pinch.

While this is a crucial detail to your emergency fund, there’s a lot more behind this financial safety net. Here’s what you might not have heard about your emergency fund.

1. Not Everyone Needs the Same Amount

Saving three to six months of living expenses is the standard goal for emergency funds. But it turns out you may not need this much. You may get by with a lot less money set aside, or you may need twice as much as this benchmark.

It depends on your lifestyle and risk tolerance. If you have a lot of dependents and work in a volatile industry, you may need more savings than a single person in a stable, high-paying position.

2. Emergencies Are Subjective

Like its name suggests, your emergency fund is for emergencies or unexpected expenses. But what falls under the scope of an emergency may change over the course of your life.

For example, any prescription or medical procedure may be an emergency expense when you’re young and healthy. But you should purchase insurance and budget for these expenses once a health issue becomes chronic, and you have to refill prescriptions or get regular medical care.

3. It Can Fail

An emergency fund helps you be more prepared in the face of the unexpected, but these savings don’t mean you’ll never be caught off guard again. You might face an unexpected repair just when you start saving, or you could have to pay for an x-ray the same week you withdrew money to pay for a car repair. In either case, your emergency fund may not have enough money in it to cover your next emergency.

Some people supplement their safety net with a personal loan or a line of credit. These financial products provide extra cash on standby in case your emergency arrives when your savings are low.

4. Your Money Loses Value Over Time

Inflation doesn’t just make your groceries cost more; it also erodes the purchasing power of your money. Since most emergency funds don’t earn a high interest rate, these savings won’t keep pace with inflation.

In other words, your savings lose value over time. That’s why most people don’t recommend you save beyond six months of living expenses. Once you hit this benchmark, you should redirect your savings contributions to investments that earn a return rate that outpaces inflation.

5. You Shouldn’t Invest It

Why not just invest your emergency fund to beat inflation and earn the most interest possible? Investing your emergency fund can be a bad idea on a couple of fronts.

Many investments come with terms; withdrawing your funds before this maturity date can come with steep penalties. Your savings are also subject to the ups and downs of the market. If you have to withdraw during a downturn, your savings may be worth less than when you invested.

Rather than investing your emergency fund, move it to a high yield savings account. These specialty savings accounts keep your fund liquid, so you can withdraw them at a moment’s notice without penalty. However, they usually come with a higher interest rate than basic savings or checking accounts.

Bottom Line:

Understanding these nuances of an emergency fund can help you build more robust savings.

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