Imagine getting hit with a pink slip tomorrow and not finding work for months. Although unemployment benefits typically provide some relief, the payments only go so far. To pay all of your bills, you'll need to rely on your emergency fund. According to a 2011 poll by the National Foundation for Credit Counseling, only 36 percent of Americans had $1,000 or more in savings. Americans clearly have a penchant for spending rather than saving, but you can be different. Make it a priority to stash away some serious cash this year, and you'll be ready if disaster strikes.
The Magic Number
Financial gurus such as Suze Orman and Dave Ramsey disagree on the exact amount of liquid moolah you should sock away. On the low end, Ramsey recommends saving enough to cover three to six months of personal expenses. For maximum security, Orman advises setting aside enough cash to meet eight months of expenses. To determine your monthly obligations, estimate not only your home, car, insurance, grocery, debt and utility payments but also your irregular bills, including pet and medical expenses.
You may get away with saving three months of expenses if your partner works and makes enough to cover most of the bills. But if you're single or your partner is between jobs, you'll want higher reserves. If you've amassed a healthy retirement account that you can raid in emergencies, you can squirrel away less than someone with no nest egg. It's never ideal to dip into a 401(k) plan, but when faced with extreme hardship, it's one more option.
Location, Location, Location
Emergency cash belongs in a risk-free account, not in an uncertain place such as the stock market. Although you could throw your dough into an insured savings or checking account, there's a better location: a money market. Savings and checking accounts offer anemic returns; money market deposit accounts feature better interest rates but offer similar liquidity and accessibility. Use direct deposit to automatically funnel part of your paycheck to the account. Certificates of deposit are another safe alternative, although you'll get slapped with a fee for withdrawing money too soon. Money markets may require a minimum balance, but there are no early withdrawal fees.
Saving thousands of dollars doesn't seem as fun as finishing the basement or taking a trip, but that's the sentiment that's gotten Americans into trouble. There's a wide gap between intention and action, but imagine how proud you'll feel with a beefy, drool-worthy account. As your savings morphs from $500 to $5,000, the momentum will push you to save even more. If you truly can't scrape together any extra funds, you'll have to do more than cut back on lattes. Downsizing your house or getting rid of a second car sounds drastic, but in the end, trimming major expenses will help you meet your financial goals while still enjoying a latte or two.
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