Good morning! Want to listen to something new and fun today? OG and Average Joe just launched a brand new podcast called Stacking Benjamins, and chose the awesome Shannon of The Heavy Purse to present activities you can do to raise financially smart kids for this very first edition. Here’s the link on iTunes.
When I was updating my net worth at the beginning of the month, I noticed a rare occurrence: I had lots of cash. I know, life is hard. The main reason why I have so much cash at the moment is because most of my online income is being paid via Paypal in US Dollars. And my Paypal account links to a French Euro account. To access the funds, I can either lose 4% to Paypal to have them convert the balance into Euros,
or send a random amount of dollars to my French bank and let them kill me with the exchange rate. Actually, after double checking with Paypal, the later is not even an option, they want to get the $$ themselves.
So at the moment, like the true procrastinator that I am, I do nothing, and look at how the balance grows every month. I was hoping to buy stuff with this account, like my flight back to Europe in May but few companies accept Paypal as a payment. And for a good reason, there is a 4% fee on transactions. I do hope big merchants have a reduced rate but for small people like me, it is pretty hefty. Nearly as bad as having your savings in a Cyprus bank.
Back to the point, I never had much of an emergency fund. I consider my credit limit on my credit cards (over $15,000) and overdraft facilities on my bank accounts (about $5,000) a free emergency fund, and prefer to invest the rest of my money in something that will earn me some interest. Having never had a health emergency, the biggest emergency I would have to cover may be a flight back to France for a funeral or buying all my stuff again if it gets stolen or my house burns down. If I needed a big medical treatment I could go back to France where I am still covered by social security. I don’t foresee needing more than $5,000, and every time my cash balance gets over that amount I feel the itch to start investing.
The case for the emergency fund
It is one of the basics of personal finance. Start an emergency fund. Get to a first $1,000, then save 3, 6, 12 months of living expenses, or more. You will be able to cover car repairs, the loss of a job, a health problem…
People start accumulating money in a 0.1% interest savings account and never think twice about what they could do with it. Like paying 15% interest debt.
Who really needs one?
With today’s ridiculously low interest rates, your savings are at best making up for inflation. You are probably losing money. This can be worth having one if
- You have a family and are the sole earner, or couldn’t live on your spouse’s income. In my case, I could cover my expenses by shifting down to survival mode, and live a not so fun life on $200 a month since my house is paid for and the cost of food is very low in Guatemala.
- You need the peace of mind to help you sleep at night. Sometimes, it is not about money, but about what makes you feel good.
- You are working freelance. Not knowing what your income will be like tomorrow is scary. I try to look at how much money I have brought in the past year, as well as the leanest month and they both tell me that I will be able to cover my living expenses without any adjustments. It would really take a catastrophe to have to dip into savings. Like my three tenants all leaving at the same time and my UK flat staying empty for months. Or the house burning down and having to build it all again. Not everyone is as lucky as I am and having a cushion can help weather the storms.
You should keep it to a minimum if…
You are in debt. Why keep 6 months worth of living expenses earning you nothing while you repay a credit card balance at 15%? Keep $1,000 or so and pay off your debt with the rest. Should you need more than $1,000 you can still resort to credit, and in the meanwhile you will have saved a lot in interest.
You have access to credit. If a real emergency arises, once more, you could charge your card. Pay it off the next month interest free or over the next few months. Needing new designer shoes is not an emergency. If you can’t pay the balance quickly, you should reduce any unnecessary expense in your budget to have more room for debt payments.
Your employment is safe. Public servants, teachers, etc. are basically guaranteed
You have semi liquid investments. If there is a huge emergency, can you cash out some investments? Even at a loss? I choose to invest in the stock market to get greater returns, but can always sell and exit. This is a risk I am willing to take in hopes of greater rewards rather than watching the money sit there on my account. The odds of an emergency are small but that money can be accessed quickly if needed.
Do you keep a big emergency fund? Why or why not?
This post was featured on Evolving PF, Debt Blag thank you!
Matt Becker says
I will agree that there are certain cases where a big E-fund isn’t needed. You mention being in debt and having significant liquid investments as two of them, and I would agree. I don’t like the idea of using credit as an E-fund because it reinforces the mentality of not being able to afford something but it’s ok because you can just go into debt for it. I’m not saying this is what you’re doing, since you clearly have other assets that can handle these situations, but I think that in general it’s a dangerous practice.
Pauline P says
Interesting perspective, sure you shouldn’t use credit cards as an EF if you spent all your paycheck on shoes, but if you invest half your paycheck and have the credit card in a corner just in case, it can be worth it. That is assuming you are responsible with money and know the definition of an emergency: food and shelter, period. Maybe some gas to commute. For some, going out is an emergency because they work so hard. That category should not follow the credit card EF idea.
jane savers @ solving the money puzzle says
I have $507 in my emergency fund and I would be happier with a lot more. I have a lot of credit card and HELOC credit to access but then I am running up the debt that I am trying so hard to get out of.
I live in Canada so I have free health care but I am single and my sons are both in university and my parents are very elderly and they have no money so I only have myself to rely on and that is darn scary. I want the 8 month emergency fund so that life doesn’t seem so scary when my employer cancels overtime and announces outsourcing like they did last year.
Pauline P says
In your situation, it does make sense to have some cash to cover a potential job reduction or loss. Once you get to 8 months and feel secure you may want to look for ways to make that money work for you while you don’t need it.
We’ve got a really big emergency fund right now. We have close to a year of expenses stashed away because A) we can barely make any money off our money right now unless we invest in the market and B) we want to have access to that money due to our fluctuating income. I would be very careful about using credit as a backup EF though. That is where most people get themselves into a huge amount of debt – using credit for emergencies (like health problems, pay the rent after losing a job, etc) and they have a hard time digging their way back out.
Pauline P says
If you only have the cards and no semi liquid investment as a backup, yes it can be a dangerous activity. If I had to dig into CC to cover an emergency, I would be able to get the money back within a month or so, while as long as I don’t need it, it earns interest or is invested elsewhere. If you invest your EF in the stock market, and need it at the wrong moment, you would indeed lose more than by leaving the money in a 1% savings account. I chose to take that risk because I think I can turn a greater return and the odds of needing the money are slim.
I don’t have a formula, but I always remain substantially liquid. How much depends on your comfort factor. Better to always err on the higher side.
Edward Antrobus says
While I don’t keep a big emergency fund (in large part because I am workong on paying debt), I don’t think a grand is anywhere near enough. My medical deductible is $3k, so I’m working up to that amount.
I don’t think that access to credit is really a good reason to have a small emergency fund. Maybe access to credit and the disposable income to pay it off in a short amount of time. If I have another major medical emergency, paying the deductible is as simple as getting a garunteed loan from the bank that has a loan officer at the hospital. So I have access to credit. But is taking 2-3 years to pay off a loan at 6.7% interest really a better idea than sitting on a pile of cash that’s earning very little?
Laurie @thefrugalfarmer says
Great post, Pauline. We have a very small emergency fund right now, but will definitely kick it up when the debt is paid off. With a bigger family, and Rick being the only (substantial) income-earner, an e-fun is probably a good idea for us.
DC @ Young Adult Money says
I do keep an emergency fund, but like you said if you have debt or access to credit (which I have both) it’s not as essential to keep a high balance.
We have a big efund, mainly because I am always worrying that something big will happpen, such as something with the house.
John S @ Frugal Rules says
We have a bigger E-Fund right now. We have six months of mortgage payments saved up and 4 months of living expenses. Our plan is to work up to 9-12 months of mortgage payments and 6 months of living expenses. This is all because our income can fluctuate wildly with running the business and would rather be safe than sorry. If you’re in debt I do not think a big E-Fund is wise, but generally in the $500-$1000 range in case anything were to happen and not have to rely on credit cards.
Daisy @ Prairie Eco Thrifter says
I do have a large emergency fund, but it won’t be so large once it hits a benchmark. Then, I’m transferring over half of it to pay off my car loan. I’ll keep the rest of it in my account, only because J’s employment isn’t the most stable and he usually has term jobs, and we have a house now which means more opportunity for emergency.
Jacob @ Cash Cow Couple says
We don’t have a huge efund, but I think your advice is spot on. We have some debt that needs paid, we do have credit, and a roth IRA can always be the worst case scenario…
Emily @ evolvingPF says
We have only about $1k in our official EF. But we have about $13k sitting in other cash and another $16k in accessible investments should things go REALLY south. So I’m not too fussed about our small EF. I think I’d like to streamline these savings so that we can keep part in cash and part in some higher-return vehicles.
The Happy Homeowner says
As a homeowner, I feel it’s necessary to keep a decent sized e-fund to cover any unexpected issues or emergencies (especially because I live in a condo building with two other neighbors). Having that cushion does give me piece of mind as a freelancer, too! 🙂
Adam @ Money Rebound says
I’ve also started letting my PayPal balance grow recently. It’s a great way to save because the online income is just additional to what I was earning before so I’m hoping it’ll pay for a good holiday in the summer! 🙂
Debt Blag says
Since it sounds like your expenses are stable enough that you don’t need much of an emergency fund, I think what you actually have on your hands there is “excess cash” 🙂
I do the three months of cash on hand, but am slowly moving toward having something more of an emergency *plan* that’s more chained.
Good post 🙂
Shannon @ The Heavy Purse says
We do have a substantial e-fund as it has saved our backside before and we were grateful to have it. 🙂 I do think people who are debt make the mistake of having no e-fund, while understandable, when something breaks, they lose momentum by having to resort to their credit cards again. As you said, there is personal peace of mind and that differs greatly but I definitely think have a $1-3k that can be easily tapped without jumping through hoops is a good thing. And thank you so much for giving Joe and me a shout-out. You are AWESOME!! Appreciate the support!
Pauline P says
No problem, the podcast was great!
I have $5K in easily accessible cash and that is more than I would like to keep, but it makes my old lady happy knowing it is there and we all know “happy wife, happy life.” Other than that I am like you, I have plenty of available credit and could sell investments if I needed to.
As far as your banking problem, I’m not sure if this is an option for you since you are not in the US, but check out Schwab Bank. You might be able to transfer the money from PayPal to there and then you can use that debit card anywhere in the world with no foreign transaction fees and they refund the ATM charge. It would make for a little hassle having to physically go to a bank to deposit cash, but it might be worth it for that 4%. Of course you might not be eligible, but it is worth a look see.
Pauline P says
Indeed, whatever to keep the ladies happy!
Re Schwab I have heard great things about them, unfortunately post 9/11, it has became virtually impossible for foreigners to open a US bank account. That is why I have a US$ account but in Guatemala, that paypal would not accept. Without having a postal address in the US or a SS number, it is mission impossible to get a bank account!
Grayson @ Debt RoundUp says
Right now I have a large e-fund but that is because I am using it as a downpayment on a house. I don’t want it in the stock market because I think a correction is coming.
As one person that has been in a good amount of debt, I would never recommend using a credit card as an emergency fund. While it can work from some (like you Pauline), it does not work for many. It is all about the mindset that it creates and will most likely put people in a worse off position.
Pauline P says
sure, using CCs as emergency funds because you are broke is not a good idea. It is just a buffer for me while I get the cash from other places in a month or two.
I never kept much in an emergency fund. I want my money working for me. My wife and I are in relatively safe professions (RN & Teacher respectively). I do have a line of credit if I need it. I am pretty good at planning for replacements etc.
Alex in Virginia says
I have multiple cash reserves, but this post and its comments are going to lead me to at least take another long look at my thinking.
Right now, I’ve got 4 cash reserve funds: $15K for living expenses, $5K for medical emergencies, $3K for home repairs, and $8K for big ticket fun spending. The thing is, I’ve also got well in excess of $150K in unused credit card limits even though I’ve got no credit card debt anymore.
Way back when, I used to think of my available credit card limits as my “golden parachute” in case I ran into some financial trouble. But it seems that I stopped thinking that way about 10 years ago, even though I’ve kept most of the credit cards active.
Ha! I’m really going to have to think about this.
Alex in Virginia
Pauline P says
You are in an amazingly good place financially, congratulations! Indeed $30K in cash seems like a lot of money to have laying there earning you nothing. At the average 7% the market is growing, you are looking at an extra $2k per year if you invested that money. It is also unlikely that you will have a medical emergency at the same time you will take a big vacation and make home repairs, so maybe those funds can be merged into one smaller, multi-use cash fund. As I said in the post, I do NOT recommend you blow through all that money and get into debt for fun, but that you invest that money, let it work for you, and use CC for a REAL emergency should it arise.
Alex in Virginia says
Thanks for that perspective, Pauline.
I have now thought about it and I am going to take a “hybrid” approach. I am cutting the cash reserves down by half and letting credit card available balances stand by to pick up the slack if needed. Should the credit card use get triggered, then I will make clearing the resulting debt a top priority. Meanwhile, the freed-up cash will get invested.
Somehow, psychologically having a few (several?) thousand cash on standby feels right. I can’t defend it rationally, but I’ll still go with it.
Alex in Virginia
Pauline P says
Sounds like a great plan. I can’t defend rationally living in a paid for house when I could get a cheap mortgage and invest that money, but to each one his own, sometimes it is not about the money.
Girl Meets Debt says
No emergency fund for this Girl. I’m in aggressive debt repayment mode and I guess if an emergency were to come up and I didn’t have the money in my bank account I would put it on my credit card without fear that I will slip back to old habits. PAY hard or go home towards debt repayment is how I feel 🙂
Pauline P says
Way to go, girl! good point about being sure you won’t go back into bad habits if you need to use the card for an EMERGENCY.
We don’t keep a big emergency fund now our debt has been paid (apart from the mortgage but that’s such a low interest there is little point). I’m with you on keeping a line of credit available.
The aim now is to build funds not so much for emergency but to make some money! More later….
My husband and I talked about setting aside money for an emergency fund long before we even got married. I think it’s one of the best decisions we’ve made as a couple. I’ve seen a lot of people struggle when something unexpected comes up, because they weren’t aware about the importance of having money saved up for times like those.
Budget and the Beach says
Yes mine is currently around 8k but would feel more comfortable around 15k. That’s when I’ll aggressively save more for retirement. But that’s because I’m a freelancer with no one to fall back on.
Pauline P says
As a privileged beneficiary of universal healthcare, I need less for emergencies but get why you would need more with potential surgery expenses and a freelance income.
I think an e fund can be any savings sitting around, or liquid investments. Today, my e fund is at about $15k which would cover about 6 months of expenses based on bills being paid up to the extent they are. That makes me feel safe.
However that e fund will become a offset to my home loan next year, and so it will still be liquid, but ‘working harder’ for me. I could still use it if I needed it for an emergency though, I’d just increase my loan a fraction.
Pauline P says
offsets are great to keep the cash handy while earning quite a big rate, I wish I could do that with my mortgage.
Canadian Budget Binder says
At the moment it’s pretty big but all the money will be dumped into the mortgage as you know. We’ve built up more than what our mortgage is worth so that will become a portion of our ES. I don’t think we will keep too much in it once the house is paid off but it’s too early to say what we will do. Right now I’m blowing lots on landscaping so who knows what I’ll have left by the time I”m done. I do think they are important for some that don’t have access to credit or those who simply don’t want to rely on a credit card or line of credit. I prefer to have some cushion in the bank for a rainy day.
We have quite a bit of money sitting around right now, but I’m expecting a huge tax bill next year, and I don’t want to invest it in anything risky before then. It would be nice to not have to worry about huge health expenses. My daughter and I have a $10K deductible, so I like to keep at least that much in liquid in case we had a major medical emergency. I refuse to go back into credit card debt, so at least that amount would have to be somewhere we could access within a month or two.
Pauline P says
the deductible is scary, I think I would keep it in cash too. So grateful for universal healthcare.
The Phroogal Jason says
An emergency fund is necessary so we don’t dip into credit cards and ultimately more debt when emergencies arise. I do find some folks have a year or more worth of savings in an emergency fund. There is a point when an individual needs to reassess their savings plan and continue to make sure the plan works for their current situation.
Great reminder, Pauline. Tammy and I are sleeping very well with our eFund growing and debts falling;) A swell combo.
We’re slowing rebuilding ours…had it building then the damn cat got sick. Lucky she’s cute!
We keep a pretty big emergency fund because we own two properties. The peace of mind knowing that we can come up with cash for most major assessments is worth and potential loss in interest from having it in more risky investments. We don’t have to pay interest on credit card payments if we do have an emergency this way!
Pauline P says
Property repairs can quickly become a nightmare. My rental is only 4 years old but it is starting to have repairs here and there, for that I should keep some cash at hand.