Dave Ramsey and I teach that if your combined household income is $40,000 per year, you should have a $1,000 emergency fund. If you earn $20,000 a year, then you should have a $500 basic emergency fund set aside. If you make $80,000, you should save $2,000 for emergencies. This basic emergency fund is your safety net so you don’t use your credit cards and go into more debt when life’s surprises occur. If the washing machine or your car breaks down, $500 should cover it.
Building your emergency fund is the first step you want to take before you start aggressively paying off your debt with the Debt Snowball™. Once you’ve finished paying off your debt, you’ll move on to Baby Step #3™ and ramp up your emergency fund to 3-6 months’ worth of expenses. Most people don’t realize they can sell things and gather a good portion, if not all, of their emergency fund. Do you have anything in the garage or in storage? Do you have clothes that you don’t wear very often? Do you have anything you could sell, even if you could make $50 to help build your emergency fund? Dave Ramsey says, “Sell so much stuff that the kids think they’re next!” Sell whatever you can. Will your employer let you work extra hours? Can you get a second or third job? Do you have a unique hobby that could start earning you extra income on the side?
The point I’m getting at here is to do whatever you have to do to establish your emergency fund and do it fast. Within one month would be great! Getting your first goal under your belt will help you feel confident that you can do this! It will really boost your enthusiasm! Achieving this goal will enable you to stop using credit cards and start paying off your debt. Start thinking about the absolute minimum you can live with and simplify your life while you are getting out of debt.
Your emergency fund is strictly reserved for life’s unexpected scenarios. It’s imperative that all members of your family and your partner fully understand that this fund is NEVER to be touched unless agreed upon by both partners and ONLY in an emergency.
Let’s talk for a minute about what an emergency is. Obviously, car repairs that can’t wait would be an emergency. If there’s a hole in the roof or the air conditioning is broken in the heat of summer, that would qualify as an emergency. If someone is sick and needs to be taken to the doctor, that would be a genuine emergency.
One thing that wouldn’t be an emergency is Christmas and other holidays. When some people are eating turkey at Thanksgiving and realize that Christmas is next month, they think it’s an emergency. If we’re over the age of two, we know that Christmas comes every December 25th. Jesus’ birthday is not an emergency, and neither is Hanukkah. Don’t pull money out of your emergency fund to buy gifts. Figure out an inexpensive way to make it a great holiday for everyone. Some families need to be reminded of the reason for the season. You can find great gifts at a discount store, or you can even make them yourself. Some families will draw names or only buy presents for the children when money is tight.
The pizza delivery guy is knocking at the door, and you don’t have the cash to pay him. It’s not an emergency. Don’t go into your emergency fund and take the money out. You would be surprised how often people say to themselves, “Oh, I’m over on my groceries, or I bought this sweater that wasn’t in my budget. I’ll just take $25 out of my emergency fund and put it back next week.” You have to stop buying on impulse, and you have to stop using credit cards! If you genuinely need a new sweater, put it in your budget!
I have clients who argue that this action of first saving $1,000 for an emergency fund delays them from getting their credit cards paid off. “But that $1,000 can almost eliminate one card! Why shouldn’t I just put it toward that card?” This is a tempting situation, but consider this: you have no emergency fund, and your transmission blows. You break your arm, or you have to fly home suddenly for a family emergency. One could argue that since you paid that $1,000 to your credit card, you can just use your credit card to pay for these emergencies. The truth is you HAD to use your credit card because you had no other funds to pay for the emergency. Now you are being charged interest and are back to square one.
Simple choices got you into debt, and simple choices will get you out of debt. You’ll be excited to make the RIGHT simple choices a few times a day to get you off the hamster wheel and actually on to the path to eliminating the debt cycle in your life!
