Completing your Three to Six Month- Emergency Fund
The third step in Dave Ramsey’s Total Money Makeover is to complete your emergency fund. If you remember, you started with just $1,000. Obviously, that amount is only good for those little emergencies that come your way, like a broken air conditioner or a minor car trouble that needs immediate fixing. But your starter fund can’t cover those real emergencies that are bound to catch anyone of us at one point in our lifetime—the loss of a job, a major illness, or death of the primary breadwinner in the family. It is for these events that you need to be truly prepared.
Fully-funded emergency savings should be able to cover three to six months of your living expenses. In figures, the amount can range anywhere from $5,000 to more than $20,000 depending on your lifestyle. If you are currently living on $3,000 a month and have a fairly stable job then having $9,000 in your emergency fund can be sufficient. But we will be covering in more just what a “fully-funded” emergency fund is later on in this report.
At this point, you should remember that this is the third step in your Total Money Makeover. You only complete your emergency fund after eighteen to twenty-one months when you have already wiped out all your debts through the Debt Snowball. At this point, you are only spending for the basics of food, utilities, and other basic necessities and the only debt you are paying for is the mortgage on your home. You can imagine just how easy it is going to be to completely fund your savings earmarked solely for emergencies.
The whole point of following the Total Money Makeover step by step is to modify how you think and view debt and money. Paying off your debt little by little also liberates you one step at a time. Now that you have nothing to pay up except the house and are making all your purchases in cash, you can now complete your emergency fund. When that dreadful and unwelcome thing happens, you still feel the blow but the financial damage that it will cause is not totally irreparable. You will not regress into getting into debt again to cover it.
Why you need an Emergency Fund
For many Americans who are still caught in the downward spiral of dependence on debt, the credit card is used as a go-to tool during those moments when we are caught in tight fix and have nowhere else to go. The problem is, using plastic for emergencies can only tide you over for so long. You will have to pay for it after a month. If you can’t, you will get interest—huge interest— slapped on you.
But what happens if the emergency persists? Let’s use the most common—and most feared—example of a real emergency: Getting fired. Without three to six months of emergency savings to use for the meantime, you keep on swiping plastic to cover the cost of groceries and make cash advances on it for your other expenses. Meanwhile you continue to hunt for a job. But what if you don’t get hi.
It is difficult to pay for debt as it is but it is even more challenging to pay for debt when you don’t have any income. This is why having savings which you must only dip into when the rainy days come is of paramount importance. But just what exactly falls under the term “emergency”?
Emergencies are those circumstances which take you unaware. Aside from getting laid off or fired, other situations that can qualify to be real emergencies include accidents or sickness requiring a high deductible before insurance kicks in; the death of the main breadwinner in the family; or a major car repair like a blown engine. If your house got severely damaged by a typhoon or earthquake then that qualifies as a real emergency, too.
What do not qualify as emergencies? School expenses like your son’s college tuition and miscellaneous; that vacation in some exotic Asian island; or even the startup money you need to start a new business are not emergencies. They are things that you should plan and save for. Even that mall clearance sale that temptingly offers that kitchen showcase at 80 percent off for one day only is not an emergency. If you don’t have the money, you can’t dip into your emergency savings funds to get what you want.
A savings fund is for those real emergencies that knock the wind off of you. It is meant to give you peace of mind so that whenever something happens that has to do with money, you know you’ll be able to face it and survive without drowning into debt.
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