Emergency Fund

I have been wrestling with the concept of an emergency fund lately, especially since we have finally been able to start making significant progress to debt pay off.

I had decided a few months ago to stop contributing to our ING savings account temporarily while we put all extra money towards our debt repayment. Because we have focused on paying off our high interest revolving-credit debts first (2 credit cards and our overdraft balance) I thought I could use the credit cards and overdraft as our fall back emergency fund. This would cover us for about $5500 in emergency expenses if it was really necessary.

I have recently read two blogs which provide an alternate strategy and now I am thinking about my decision in more depth. Blogging Away Debt talks about how good it felt when an emergency arose and they did not have to rely on the credit cards when they unexpectedly had to pay taxes for 2006. Over at Matt's Money Blog I see that Matt has made an effort to save $1000 in his EF before paying down credit card debt.

Mr Wooly and I have never really had an emergency fund, and we felt how much this can hurt when Mr Wooly was unemployed for three months. Although he collected employment insurance, we started slipping behind in our bill payments and were at the credit limit of all available credit options. This caused many arguments and a lot of frustration on both our parts.

So how much should be in our EF? To top off his employment insurance to a level which meets our budgetary needs, we need an extra $750 per month. I have read that this EF should cover 3 months of wages, so at minimum, we need $2250 in savings.

If we use our credit cards for this amount, at an average of 20% interest, the annual cost of borrowing this money would be $450 (in interest charges).

If, on the other hand, we put this money in our ING savings account, we could earn about $90.

When looking at the numbers, having an EF makes the most sense. However, Mr Wooly is pretty adamant that we aggressively attack our debt, so he and I need to talk about this. If I see any more thoughts on this in the PF blog world I will let you know. And any opinions you may have are appreciated!

3 Comments:

  1. Ugly Debty said...
    I agree with you. Definately have the EF fund. Although, I can so understand where Mr Wooly is coming from - having that debt hanging over your head is so stressful that you just want it gone. I dont have an EF yet, because I'm in Mr Wooly's frame of mind, but as soon as I feel a little free-er from the debt stress, I will definately be getting one.
    Krystal said...
    I agree. Having an EF is so important. When I was getting rid of my debt, I made sure to save at least a little bit of every pay cheque into my EF (maybe only $25 or $50 bi-weekly to begin with). That way, if an emergency arose, I wouldn't have to deal with it by using my credit card.

    Plus, you never know what lies ahead, so you should at least have a tiny bit of money saved up. An emergency trip, or medication, or replacing a blown tire ... much better to pay for those things with cash from the EF. That way you're not causing more of a strain on yourself financially by creating more debt for yourself.

    Because you still have debt you're tackling, maybe you should start small and try to create a $1000 EF. From there, you can go up to $1500, then to 3 months worth of expenses.

    If you build up slowly, $25 here, $50 there, before you know it, you'll have a good sized EF! And yes, it would make sense financially to pay off your debts first, and then start on the EF ... but the EF provides peace of mind, and it becomes your financial cushion, instead of the credit card.
    kPg said...
    Gosh, it's so hard to put up your own emergency fund, right? You have to have the right amount of discipline to be consistent with your contributions, and your reasons for building the fund should be enough to keep you motivated. Is it advisable to start small when putting up an emergency fund? And by small, I mean saving up your loose change and stuff like that. Well, that's what I'm gonna do for now.

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