Building an emergency fund is a cornerstone of sound financial planning. Knowing when to use your emergency fund is “Chapter 2” of that practice. Life is unpredictable, and unexpected circumstances can arise at any time, leaving us in need of a safety net. The emergency fund acts as a cushion to help weather the storm during difficult times without resorting to debt.
But using this fund is a serious decision that requires careful consideration. In this article, we’ll explore the situations when it’s a good idea to use your emergency fund.
First, we’ll discuss three rules of thumb for knowing what truly constitutes an emergency. Then we’ll explore some examples of situations where using your savings is appropriate.
Rules for Using Your Emergency Fund
An emergency fund is just that: a fund for emergencies. It’s not a slush fund. It’s not a bailout fund. That pile of cash is for true emergency situations.
So how do we know when something constitutes an emergency and when we should dip into emergency savings?
Here are my three rules:
- The expense is unexpected;
- The expense must be paid imminently; and
- You cannot cover the entire expense with your monthly income.
An unexpected expense is something that we did not anticipate in our budget. If we knew it was coming, we could prepare for it by earmarking savings outside of our emergency fund. (That’s why Christmas and birthdays are not emergencies).
An imminent due date is within 30 days. If it is longer than this period, you may be able to use a few months to set up a payment plan to not deplete your emergency fund if you’d like. Though paying it in full upfront has some advantages too, such as avoiding interest and payment plan fees.
The expense must also not fit into your budget for that cycle. Let’s say we have a budget of $5,000 per month, and $1,000 of that is available for whatever goal you have. A $750 emergency is within your monthly budget, and you don’t have to dip into emergency savings.
But if the emergency expense is $3,000, it exceeds your monthly income by $2,000. That $2,000 excess amount must come from your emergency fund.
Types of Situations to Use Your Emergency Fund
So we now have three elements to determine if something constitutes an emergency and if we should use the emergency fund. Now let’s discuss some examples of situations where using that cash is proper.
Sudden Medical Emergencies
Health is paramount. When a medical emergency strikes, you may need immediate access to funds for medical bills, treatments, or surgeries. This is often not something that can be put off, such as mending a broken arm or a life-saving surgery.
Even with health insurance, there are often out-of-pocket expenses and deductibles to pay. That’s especially true if you have a high-deductible healthcare plan and do not have significant cash in a Health Savings Account.
Your emergency fund can provide relief during these challenging times and allow you to focus on recovery without worrying about finances. The other option would be to allow the bills to become medical debts, which we want to avoid.
Job Loss or Other Significant Income Reduction
In an ever-changing job market, employment uncertainties are common. If you unexpectedly lose your job or face a significant reduction in income, your emergency savings can act as a temporary lifeline.
You can use the emergency fund to cover essential expenses like food, utilities, housing, and transportation. I call these expenses the Four Walls. The emergency fund provides you with a buffer while you search for new employment opportunities or wait for your income to stabilize.
If you think that a layoff may be on the horizon for you, here are some tips for preparing your household. This will help you preserve more of your emergency savings as well.
Urgent Home Repairs
Homes require maintenance, and unexpected repairs can pop up at inconvenient times. If we don’t have an emergency fund, such a situation can be financially ruinous. But the emergency fund can save us from falling into debt to cover these necessary expenses.
Whether it’s a leaky roof, a malfunctioning furnace, or a burst pipe, these repairs simply cannot be postponed. They have to be done. And we often don’t see them coming because some house problems can be latent until it’s too late.
Using your emergency fund to address urgent home problems can prevent further damage and more substantial expenses down the line. This is one of the important aspects of homeownership to consider before jumping in headfirst.
Essential Vehicle Repairs
For most Americans, a car is essential for commuting to work and handling daily responsibilities. When your vehicle breaks down unexpectedly, getting it repaired is crucial.
Not having properly functioning brakes isn’t an option. The radiator must work properly to keep the engine at optimal operating temperature. And tires absolutely must be in proper condition so we stay on the road.
Having an emergency fund enables you to fix your car promptly and avoid potential job-related or personal disruptions. Proper maintenance on your vehicle also makes it less likely that these problems will happen suddenly.
Unforeseen Family Emergencies
Life’s uncertainties extend beyond our immediate selves. There might be situations where family members or loved ones need financial assistance due to unforeseen emergencies. Or we may need to make sudden travel arrangements due to a family medical emergency.
Your emergency fund can be a source of support during these times, helping you provide help to those in need without endangering your financial stability. Making travel arrangements may be quite costly if you have to do so with little time to prepare.
You can also use the emergency fund to cover some lost wages during the time you are out of work, if travel is required and you don’t have available paid time off.
Legal Disputes
Legal matters can be quite costly. Sometimes, despite our best efforts, we cannot avoid them. In order to protect our interests, it is important that we have good legal counsel on our side. This is not something to cheap out on and risk an adverse outcome.
Whether it’s a traffic violation, contract dispute, or a landlord-tenant problem, having an emergency fund can spare you the stress of finding money to cover retainers for legal counsel. If you have to pay fines, you can use the emergency savings to avoid being indebted.
Final Thoughts on Using Your Emergency Fund
Having an emergency fund is ancient and divine wisdom. It serves as a vital financial safety net, providing peace of mind during life’s unexpected challenges. But it’s essential to use this fund judiciously and only in true emergencies.
Before tapping into emergency savings, evaluate the severity of the situation and explore other solutions before using that money. Also remember that it’s critical to replenish the fund as soon as your situation stabilizes.
I recommend having three to six months’ worth of expenses saved in a fully-funded emergency fund. I advise this after you have paid off all non-mortgage debt. Until then, aim for a starter emergency fund of around $1,000, or one month’s housing payment, whichever is greater.
Remember, the purpose of the emergency fund is to ensure the security and continuing stability of our finances. Using it wisely and responsibly will help you stay on track towards achieving your long-term financial goals.
