Debating Emergency Fund Rules: What's Your Sweet Spot?
Building an emergency fund might sound like basic financial sense. But the advice varies on how much is the right amount to save. Three months might feel doable, six months is often considered the gold standard and a full year can seem either ultra-secure or totally unrealistic.
To find out why each of these numbers is commendable, we spoke with financial experts.
Go ahead and explore which number might be right for you based on your lifestyle and costs.
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Why the Emergency Fund Rule Is No Longer One-Size-Fits-All
The classic six-month rule still anchors the function of an emergency fund, to pay for living expenses in case of a true emergency, according to Robert R. Johnson, CFA and professor of finance in the Heider College of Business at Creighton University.
However, today’s economy and work patterns — be they “political events, AI or other,” are forcing people to rethink the number, according to Sean Fox, president of debt resolution with Achieve, a digital personal finance company.
“Everything, from gas to meat to fresh produce, is more expensive than ever,” Fox said. So the higher the resource to draw from, the better.
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Three Months of Expenses — A Realistic Starting Point
For many people, three months of expenses is the most achievable target, especially early in their financial journey. It can provide a basic cushion without pulling too much money away from investing or paying down debt.
Johnson said this level may work best “if one has a very stable job in a very stable industry. Then likely one is able to have a smaller emergency fund than someone who has a less stable situation.”
The downside is exposure to bigger shocks, warned Dan Costigan, a CFP and CFA at Two Palms Financial.
“A lower reserve leaves you susceptible to bigger risks thus leaving you to undesirable last resorts [such as] early 401(k) withdrawals and credit card debt to name a few,” he said.
Six Months of Expenses — The Traditional Sweet Spot
Six months has long been considered the balance between security and flexibility in the instance of losing a job or a significant health setback, Johnson said.
At the same time, he said “one of the biggest money myths is cash is king." Over the long run, holding significant amounts of cash (versus investing) could mean missing out on greater wealth through compounding interest.
Moreover, Costigan pointed out that for some people, simply having three to six months' worth of cash sitting in a bank account may lead to the temptation to spend it.
One Year of Expenses — Maximum Security for Unpredictable Income
Saving a full year of expenses can sound extreme, but for some people, it’s the most realistic safety net. Costigan said this is especially true for people with variable income like freelancers or gig workers or business owners with unpredictable income.
However, at this higher level, Johnson doubled down on his concerns over “significant cash drag” as this much money can pose a “significant opportunity loss by overinvesting in an emergency fund.”
Where To Keep Your Emergency Fund (No Matter the Size)
No matter how much you save, where you keep it matters just as much. It's wise to prioritize safety and accessibility, not growth. Costigan recommended high-yield savings accounts, so long as they are FDIC insured.
Johnson said that a money market fund has many of the same functions as a savings account, so there are flexible and lucrative options for your savings style.
It’s important to make sure emergency funds are easily accessible, however, Fox said, so long as you can avoid the temptation to spend them.
This article was provided by MoneyLion.com for informational purposes only and should not be construed as financial, legal or tax advice.
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