A lot of people are happy to tell you what to do with your money: save it, spend it, invest it, splurge! But one thing many consultants appear to agree on is the need for an emergency fund. An emergency fund is a supply of cash, immediately available, to handle expenses should something bad happen. An accident, an illness, a job loss or divorce—no one likes talking about these things, but they do happen, they can really impact your finances, and being prepared for them can make a bad situation better.

Here are some questions to consider while setting up your emergency fund:

What’s an “emergency”? Everyone involved must agree that an emergency fund is for just that: emergencies. A one-time deal on a new car does NOT constitute an emergency. So how do you define an emergency? Clarifying that now can avoid conflict later.

How much do you need? There is a disparity of opinion on how much is “enough.” Is $1000 enough? How about the amount required to keep your home running for three months? Some say enough to live on for a year is best. The “right” amount is whatever works best for you. And as your life circumstances change, you’ll likely want to revisit your emergency fund to determine if you have the right amount in it.

 Where will you put it? If you’re the type who finds available money too much of a temptation, then it might be best to put the money where it can be out of sight and out of mind. A savings account or money market account keeps the money available and liquid but also earning interest. Just don’t accept a debit card, if it’s offered, or hide it away.

Do I pay off high-interest debt or start an emergency fund? This is entirely up to you, of course, but consider this: if you have an emergency, how will you pay for the medical bills? How will you keep the home running if an income is lost? If your answer is “credit cards,” you might decide that paying into an emergency fund could ultimately save you money.

Filed under: Money management tips by Shannon