What You Need for Life’s “What If’s”
by Alacias Enger
Living with HIV, Paula is a longtime A&U reader who works as a freelancer and has long relied on SSI and Medicaid to cover her nearly quarter of a million dollar annual prescription costs. Paula’s husband is employed in a somewhat seasonal industry, making the bulk of his income during summer months. When asked about her ability to handle a financial emergency, Paula explains, “Normally I can handle it, but barely,” going on to express that she and her husband are much less financially secure in winter months. Unfortunately, emergencies don’t wait for optimal timing. They have a tendency to drop in unexpectedly, whenever they feel so inclined. For Paula and her husband, this unexpected visit occurred at the end of April. A pipe burst, creating a flood in their home, and the inability to use the shower in one bathroom. The estimated cost of repairs was $500–$900. They had to delay the much needed repairs for one to two weeks while they waited for a check to arrive. Sadly, their experience is not unique, as Bankrate’s January Financial Index Survey suggests that less than half of Americans are prepared to use savings to cover a $1,000 emergency.
We’ve spent the past few months discussing credit card debt and strategies for paying it off. What’s equally important is preventing a resurgence of debt once it’s gone. The only way to do so is to have an Emergency Savings. That way, when life’s little “what ifs” pop up, you’ll be prepared.
Fortunately, it doesn’t look like Paula and her husband had to go into debt over this emergency, but they were severely inconvenienced by having to delay the much-needed repair to their home. This couple needs to devise a plan for emergencies going forward, and now is the perfect time. Since we’re moving into the summer months, work will be picking up for Paula’s husband, affording them the opportunity to save a bit.
The first thing to consider is to always keep emergency savings funds liquid. Use a savings account at a local bank or credit union. No CDs. Certificates of Deposit (CDs) usually offer a slightly higher interest rate, but require you to lock up your money for a certain duration of time. Use a simple savings account to make sure funds can be accessed at any time with no penalties. Next, they should automate their savings by either using direct deposit, or the automatic transfer feature on their online banking so as to fund their emergency savings account first every single payday.
Since Paula’s husband earns less income during winter months, they have been required to tailor their budget to that earning level for the past several months. I would urge them to maintain this winter budget as much as possible during these summer months and utilize the increased income for their emergency savings. If Paula’s husband earns roughly $500 more in summer months, that creates an extra $2,000 over a four month period! If Paula and her husband are already free of credit card debt, this entire amount can be applied to their emergency savings. If they’re also paying down consumer debt, they might consider a split, with half going toward debt and the other half toward their emergency savings.
But just how much should they be saving?
If there’s consumer debt involved, I suggest starting with a “Mini Emergency Savings.” Some people suggest that $1,000 is ideal, stating that their typical emergency could easily be covered by this amount. But this is where personal finance gets personal. If you live in a HCOL (High Cost of Living) area, that amount may not feel like enough. I prefer my own “Mini Emergency Savings” amount to be closer to one month’s worth of my expenses. The purpose of this account is to create a feeling of security. Tailor this number to suit your needs. Once this “Mini Emergency Savings” is in place, any extra income can return to debt payoff. Once all consumer debt is paid off, or if there is none to start with, move on to a “fully funded” emergency savings.
Experts have differing views on exactly how much constitutes a “fully funded” emergency savings account. While some believe that three to six months of your expenses will suffice, others suggest saving eight months or more. I am firmly planted in the latter camp. If something happened making Paula or her husband lose a source of income, three to six months of expenses saved may not be enough.
Remember, it won’t happen overnight, but every step taken is a step toward a secure financial future.
Alacias Enger is a performing artist, writer, and educator. She lives with her partner in New York City, and is the founder of blogs “Sense with Cents” and “Travel Cents.” Follow her on Twitter @sense_w_cents. If you have a personal finance question you would like answered in the column, please send an email: [email protected].