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Emergency Funds

Money Pit

Be careful to not use your emergency fund as a convenient source of money if you run a little short at the end of the pay period. The intent of an emergency fund is to keep you afloat if your income is interrupted. If you're not careful, you could easily deplete your emergency fund before an emergency occurs.

Dollars and Sense

Three to six months' salary is the rule of thumb for what you should have in an emergency fund. If you have other sources of emergency money, such as family or a 401(k) plan that you could call on for a short-term loan, you probably can get by with less. If you have no other sources of money, try to save a little more.

Just when you think you have some fun money, we're going to tell you to stash it away in case of an emergency. Sorry to burst your bubble!

An emergency fund is essential. If you lose your job—a dilemma that too many people have had to face recently—or run into dire straits from another direction, you'll need some money to tide you over until you get reorganized.

Some people need to have an emergency fund to tap into because of the unsteady income provided by their jobs. If you're in a business where you earn a lot of money sometimes and very little or no money at other times, you might need emergency money to use during the lean periods. Of course, it's important to set up a budget so that you don't spend more than you should when you have money coming in.

If you don't have an emergency fund and you lose your job or get into financial trouble, the temptation might be to use your credit card. You could live perfectly well on your credit cards for several months, depending on your credit limits. Nearly everyone, from your doctor to your grocery store, will take your plastic instead of your cash, and your credit card issuer will be delighted. But if you end up with $4,000 or $5,000 in credit card debt at the end of that time, you'll be the one who's sorry. It will take you a long time to get back on your feet again.

Establishing an emergency fund should be a priority in your personal finance plan. You can build the funds within a money-market fund, which will give you accessibility and liquidity, as needed. Even better, use a monthly or biweekly automatic debit from your checking or savings account to transfer money into your emergency fund. That way, you pay yourself first, before you're tempted to use the money for other purposes.

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Excerpted from The Complete Idiot's Guide to Personal Finance in your 20s and 30s © 2005 by Susan Shelly and Sarah Young Fisher. All rights reserved including the right of reproduction in whole or in part in any form. Used by arrangement with Alpha Books, a member of Penguin Group (USA) Inc.

To order this book visit the Idiot's Guide web site or call 1-800-253-6476.

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