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If you follow financial advisory blogs or listen to podcasts, you may be familiar with what an emergency fund is and how it can help you sustain in several different scenarios. Basically, an emergency fund is a pool of money or assets that you set aside for use in case of emergencies. The definition of an emergency varies from person to person – some might pull it out even when their garden needs a new fence, or some might not even touch it after a hurricane or storm has wrecked their neighborhood.
With all of the inflation and rising commodity prices, as well as the lowering incomes, it can be particularly difficult to build an emergency fund for even a month. Earlier, experts suggested that you need a 6-month emergency fund at all times, but now that figure has been doubled to 12 months. If you need a 12-month emergency fund, there are several ways to get it, and this article covers all of them.
Why You Might Need a 12-month Emergency Fund
Due to the pandemic, there has been a lot of financial uncertainty and turmoil, from the government level to the lives of ordinary citizens. The better part of the past two years has been spent in a lockdown, where people could only leave their homes to get necessary supplies and groceries. Most of the time, people used to order basic supplies from e-commerce stores as well because they couldn’t leave their homes at all.
Due to this situation, experts suggest that even a 6-month emergency fund won’t sustain you in any case, and you need to have at least 12 months’ worth of funds to sustain yourself so that you are well-prepared for any situation. Another reason why a 12-month emergency fund is necessary is that if you lose your job, you might have to grind it out for several weeks before you can find another one.
Currently, the average unemployment duration stands at 30 weeks, which means that it may take more than six months for you to find a job. Therefore, you should have enough money to keep the household running even when you are unemployed.
Another benefit of having a 12-month emergency fund is experienced when you are planning to leave your job and look for better opportunities or start your own business. As you may know, starting your own venture isn’t easy, and it may take several months of hard work before you can get it off the ground. Add to that a few more months, and that is when you might start making enough revenue to keep the business fueled.
As you start working on your business, you will have more peace of mind when you know you have a 12-month emergency fund stashed away to support yourself and your family’s needs. Therefore, you would be focused on your business rather than being distracted.
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Why a 12-month Emergency Fund Might Not Be the Best Idea
Although having a 12-month emergency fund sounds like the real deal, it seems more of a dream when you are living paycheck to paycheck or you don’t have enough income to actually save money from it. Moreover, prior debts can also crush your hopes of setting up a 12-month emergency fund, which is why you might be worried all the time that you have nothing to fall back on. You may choose to consolidate debt and pay it off earlier, so you can get started with your savings. However, this will take up quite a lot of time, and you might not be able to save up enough.
Plus, you may think that you don’t need a 12-month emergency fund, mainly because you and your family are in good health, and you have every possible insurance to take care of unforeseen circumstances and emergencies. Even if you can’t make rent and are slapped with an eviction notice, you may choose to live with a friend and family member just to save some money for a few months.
Another thing about a 12-month emergency fund is that it involves a lot of money, possibly between $50,000 and $150,000. If you have saved up this much money, kudos to you. However, there will always be a temptation to spend it all on something you have always wanted, such as a nice car, a new watch, better clothes, home renovations, etc. Therefore, you have to be very particular about dedicating the money for emergencies only and not spending it on your desires.
When Rachel says, “it’s simple, fun, and doable,” It’s simple because it’s really about cashflow in cashflow out.
It’s fun if you allow it to be fun with your mindset. And if you do the simple and the fun, that it’s very doable. Because you are actually reaching the goals that you want to reach by keeping them simple and doable.
How to Get a 12-month Emergency Fund?
If you have your sights set on a 12-month emergency fund and you are starting from zero, the chances are that you will need 18-24 months to save up enough money, unless your expenses make up for less than 50% of your income. Even then, you will need up to a year to put money aside without spending it anywhere else.
Here are some tried and tested methods that you can use to get a 12-month emergency fund for yourself.
1. Calculate Your Monthly Expenses
The first step to finding out how much you need to save is to determine how much you spend every month on essentials and non-essentials. Your essential expenses would include your rent, utilities, phone and internet bills, transportation, insurance payments, and mortgages. The non-essential section might include dining out, leisure subscriptions, and other things that can possibly be skipped as well.
Once you have a number, multiply it by 12, and you will have the amount of money you need to have in your year-long emergency fund. For instance, if your monthly expenses amount to $4,000, then your 12-month emergency fund should have at least $48,000 in it.
2. Set a Saving Goal
The next step is to break down the amount of the emergency fund into small and manageable goals. By doing this, you will get much closer to your goal of saving up enough money to run your household for an entire year. Your goals would also depend on how much money you are left with every month after deducting the expenses.
Let’s say your monthly income is $8,000, out of which $4,000 is spent on monthly expenses. So, you are left with $4,000, and even if you deduct another $1,000 for non-essential or unforeseen expenses, you can easily put $2,000 to $3,000 in your emergency fund. If you have to gather $48,000 for 12 months, it will take you anywhere between 16-24 months to reach the target. If that is a manageable goal for you, then you can get your emergency fund ready within 1.5 years.
3. Cut Down on Expenses
Simply putting the remainder of your monthly income in the emergency fund won’t help – you would also have to cut back on certain small and large expenses that don’t cause you to suffer but will help fill up the cup much faster. You may choose to brew your own coffee instead of buying it every day, read news online instead of magazine and newspaper subscriptions, and also eliminate all unnecessary and unused subscriptions that erode your money slowly.
If you are serious about saving money for an emergency fund, you may even make some more significant changes, like moving to a lower-rent accommodation and trading your SUV for a smaller and more fuel-efficient car.
These are some of the methods by which you can easily save up enough money to build a 12-month emergency fund for yourself. With all of the uncertainty floating around, having an emergency fund is the need of the hour, and it can help you escape from financial stress as well.
About the Author
Lyle Solomon has considerable litigation experience as well as substantial hands-on knowledge and expertise in legal analysis and writing. Since 2003, he has been a member of the State Bar of California. In 1998, he graduated from the University of the Pacific’s McGeorge School of Law in Sacramento, California, and now serves as a principal attorney for the Oak View Law Group in California. He has contributed to publications such as Entrepreneur, All Business, US Chamber, Finance Magnates, Next Avenue, and many more.