Emergency Funds: Why You Need One and How to Get StartedIf you do much research into personal finance, you’ll probably find a lot of advice telling you to build an emergency fund. Emergency funds, stockpiles of money you save up in order to pay for unexpected and urgent expenses, are commonly recommended as a part of organizing your finances, as well as investing. However, why exactly are emergency funds so vital to financial health? We answer that question, and let you know how you can start one of your own, below.

Why emergency funds are important

An emergency fund is the base of building personal wealth, providing security and peace of mind so you can comfortably invest your money in other ways. With a fully stocked emergency fund, you can take care of sudden, high-priority costs using cash instead of relying on credit or taking out a loan, letting you avoid taking on debt and paying interest. Many people also design emergency funds to help them in case they lose their job, ideally holding enough money to support them for several months while they search for a new one and wait for their first paycheck. With this financial safety net in place, you can then confidently invest other money in a number of ways that are more profitable, but riskier or tie up your money for a long time, such as retirement funds, college funds and stocks.

3 steps to starting an emergency fund

Having an emergency fund in place is ideal, but starting it isn’t always easy. Here are three ways to build one:

Set goals: Before you start saving for your emergency fund, decide how large you want it to be. A good benchmark for the size of an emergency fund is three to six months’ worth of your essential living expenses, though this can change depending on your circumstances. For instance, if your income isn’t reliable because you freelance in a seasonal industry, you may want to beef up that goal to nine or 12 months to help you get through lean periods. Apart from choosing your emergency fund’s ultimate goal amount, you should also set smaller goals, such as saving $100 in one month, to give you something achievable to strive for in the short-term, which can help motivate you. If you currently owe high-interest debt with more than 4% APR, it’s okay to divert some of your emergency fund savings to help pay off your debt, but you should still save something. Even an emergency fund of $1,000 is better than nothing, and puts you ahead of most Americans.

Pick a storage place: Emergency funds aren’t a set type of account, and there are actually a variety of financial storage and investment tools you can use to keep your fund safe and accessible. The most common accounts for emergency funds are checking accounts, which allow pretty much unlimited access to your money but don’t generate much interest, and savings accounts, which slightly limit access to your money but generate decent amounts of interest (particularly high-yield online savings accounts). You should also consider money market accounts, which are like savings accounts with check-writing privileges that typically require high minimum deposits, and even Roth IRAs, which are retirement accounts that let you withdraw your contributions without any penalties.

It’s also possible to use a stock brokerage account for your emergency fund, which can let you grow your fund using the high returns the stock market can provide. However, this is very risky, as the stock market is volatile on a day-to-day basis. If the market is down the day you need to access your fund, it may contain less money than you originally put into it. Whichever kind of account or accounts you choose, just make sure they’re at a different financial institution from your primary bank account. Separating your primary checking account and emergency fund will make it a little bit harder to access your savings, hopefully cutting down your temptation to dig into it for non-urgent purchases.

Make a saving plan: Once you have your goals and storage set, it’s time to come up with a plan to put money into your emergency fund. Figure out how much you’ll have to contribute to your fund every time you get paid in order to reach your goals. If you aren’t used to saving money and need to ease into it, you can start saving a small amount of money, such as $10, from your paycheck, and then increase your savings by $5 every pay period. Regularly contributing generally works better than making occasional lump-sum payments, as the smaller, steady payments are easier to track and prepare for. You can also set up your primary bank account to automatically transfer money to your emergency fund at certain intervals, such as the day after you get paid, to make sure your emergency fund savings go into the proper account as painlessly as possible.

If you feel like you’re already using all of your income and can’t spare any money to build an emergency fund, you should review your budget to see where you can cut costs. Look at your last few months of financial records, such as bank and credit card statements, and hunt for spending patterns and regular expenses you feel okay with reducing or eliminating, such as going out to eat, clothes shopping and cable bills. Additionally, if you have high-interest debt that you’re paying off, a balance transfer to a credit card with a low or 0% intro APR offer can save you from paying interest and potentially lower your monthly payments for a while. Our free Balance Transfer Calculator can match you with the perfect card for your transfer amount, desired monthly payment and credit rating.

Filling up an emergency fund can be a long process, but the financial security and sense of accomplishment it can provide is entirely worth it. To learn more about managing your money for everyday life, follow our personal finance blog.