Emergency Fund Calculation

7 04 2011

Meteorologists will guarantee it will rain some day or another.  This is precisely why we all need an emergency fund (a/k/a Rainy Day Fund).  We cannot prevent every misshapen or misfortune, but what we can do is prevent the severity of the situation with an adequately funded emergency fund.  The main goal of an emergency fund is the elimination of having to rely on loans and credit to survive during a rough time (job loss, medical emergency, etc.). 

Experts advise people of having three to six months worth of expenses in an emergency fund.  Some experts rely on an even more conservative approach by suggesting to save 70% of gross income for three to six months.  Below is an example of a one month Emergency Fund based on 70% of the person’s gross income.

$40,000 gross income DIVIDED by 12 months = $3,333/mo

$3,333 TIMES 0.70% = $2,333 for each month

One very important factor to understand is that when an emergency hits, such as a job loss, your expenses should be lowered.  This means if cable television with premium channels is just one of your monthly expenses, you should decide whether or not cancelling the premium channels (or cable service altogether) would help your situation.  Cancelling or dropping a certain number of “unnecessary” expenses such as cable, eating out, gym memberships, etc. will help to retain money in one’s emergency fund.  Why?  Because money is left over to cover essential expenses such as rent/mortgage, food, electric, car payments, etc.

If you find yourself in a situation where you need to withdraw monies from your emergency fund, it is important to replenish the account when funds are finally available.  It is always wise to minimize expenses if at all possible when faced with an emergency to ensure your fund can survive longer.

FIX IT TIP:  Want to see how long your money will last?  Visit the basic liquidity ratio.

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