We all know that life has a way of dropping surprise expenses in people’s laps. You might go to start your car in the morning only to find that, well, it won’t start. Or, you might wake up to a frigid house in the middle of winter — and a $2,000 bill to repair your heating system.
You also never know when you might fall victim to a layoff. A situation like that could really upend your finances in a serious way.
It’s for reasons like these that it’s important to have money in your savings account at all times. Your emergency fund should ideally hold enough money to cover three months of essential bills at a minimum.
Perhaps you calculated how much to save for emergencies several years back and completed it shortly thereafter. If so, you’ve probably been benefiting from the peace of mind that comes with knowing you’re well-stocked on savings. But if it’s been a few years since you built your emergency fund, your savings might now need a boost.
Does your emergency fund account for inflation?
The reason your emergency fund should have enough cash to cover at least three months of essential bills is that it might take you that long to find work after becoming unemployed. With adequate emergency savings, you should be able to pay your bills without having to immediately resort to credit card debt.
But in recent years, inflation has surged. And even though it’s cooled a bit over the past 12 months, in March, living costs were up 3.5% on an annual basis, as measured by that month’s Consumer Price Index. Because of this, if you built your emergency fund years ago, you may not actually have enough money to still cover three months of bills.
Let’s say you finished your emergency fund two years ago, and back then, your rent was $1,650 a month. If it’s now $1,850 a month, your numbers are off.
Similarly, it may be that you used to spend $400 a month on groceries. If you’re now spending $450, that leaves you short on funds in that category.
That’s why it’s a good idea to go through your essential bills line by line, add them up, and see what savings you need to cover them for at least three months. Then, compare that total to the amount of money in your emergency fund. If you’re not quite where you need to be, you’ll know to start diverting more cash into your savings.
You may not have such a big shortfall
At this point, you may be ready to cry or scream thinking you did such a great job of building your emergency fund and now it turns out it wasn’t enough. But before you go into panic mode, remember one thing.
Banks have been paying pretty generously following the Federal Reserve’s string of 2022 and 2023 interest rate hikes. So while your emergency fund might still be a little short, it may not be that short when you factor in the interest income you’ve been collecting.
All told, your emergency fund should be set up to get you through a period of unemployment. If your bills have gone up since you completed your emergency fund, give it a look and try to boost your cash reserves in case a situation arises where you actually need to tap them.
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