Keep Your Emergency Fund Out of Sight to Forget About It

Building an emergency fund to protect against unexpected expenses involves small, deliberate steps and avoiding temptation.

A recent Google search for the definition of an emergency fund harvested about 173,000,000,000 results. Here is the first one from Investopedia: Emergency fund refers to money stashed away that people can use in times of financial distress. The purpose of an emergency fund is to improve financial security by creating a safety net that can be used to meet unanticipated expenses, such as an illness or major home repairs.

Evidence for household emergency funds, however, is not as common as its definitions on the internet. Last year, the Federal Reserve disclosed only about two in three adults when faced with a hypothetical expense of $400 had enough cash to pay for such a contingency. About 24% of Americans had no savings whatsoever for emergencies.

Just as there are many definitions for an emergency fund online, there is a good deal of disagreement on how long the duration of expenses should be for such a fund. Most financial planners think three to six months as being an acceptable range while some weigh in for a full twelve months as being the appropriate length.

One emergency fund factoid appears to be uncontroversial. It transcends generations. Bankrate’s research found just 41% of Millennials said they had enough savings to cover a $1,000 emergency expense compared with 42% of Gen Z, 48% of Gen X, 44% of Boomers, and 49% of the Silent Generation.

Why don’t more people have emergency funds?

A reason people may have a problem with adequate emergency funds is it is a form of self-insurance without an insurance salesforce. We need insurance products, but when it comes to an emergency fund there seems to be no advocacy. Now and then we are reminded by a news article or others’ unfortunate life experience that we should have an emergency fund, but no accompanying compelling urgency to nudge us to follow through.

Traditional rules for setting goals may be yet another reason for some of us not being successful in establishing or funding an emergency fund. Goal visualization, daily reminders, and measuring progress for the emergency fund can be challenging. Uncertain specificity for a moving target amount (due to expenses increasing each year) and competing attention for debt eradication are reasons that may even forestall starting an emergency fund. 

If the target weight on a diet was uncertain, and every time you looked at the scale you failed to see progress, even though you were on track with the diet wouldn’t it be tough to stay the course?

Strategy for establishing an emergency fund

Here is a strategy for someone who wants to start an emergency fund. Write yourself a contract. No, I propose something easier. Join a credit union where you will do no other business. Then arrange for a certain dollar amount, say $10 to $20 to be direct deposited every pay period into a money market account. Each year, increase the pay period transfer amount by a small amount.

Let’s say you transfer $15 a pay period. There would be $390 at the end of the year. Increase it to $20 the next year and it would add another $520. This method of adding $5 a pay period would give you a total of $3,250 at the end of 5 years, not including the interest.

Why use a credit union?

Why do I suggest a credit union for this purpose? I contacted several credit unions for this article. None of them have a minimum deposit transfer amount. When you join a credit union you are an owner. You will have lower fees and higher savings rates. Should you need a loan for an emergency that is bigger than your fund, the credit union will probably offer lower interest rates on loans.

Create barriers to avoid temptation

The emergency fund in a credit union where you do no other business becomes a barrier to temptation. The most profitable area of a supermarket of yesteryear was probably the checkout line. That was where we were tempted to purchase candy, magazines, and other things that were not on the shopping list. Why not create a barrier to help you from raiding your emergency fund?

Placing the emergency fund with a different financial institution is a physical barrier. By having an emergency fund apart from your checking and saving financial institution there is also a mental barrier. This arrangement removes the temptation in non-emergencies to transfer or “borrow” from the emergency fund to pay yourself back. This is because if you don’t like to write contracts to yourself and you probably do not like paying yourself back when you borrow your own money. Isolating the emergency fund serves as a speedbump to using it only for emergencies.

The idea is to start your emergency fund without pain but with discipline. However, there will be less of a temptation to raid it because it is not easy to transfer money from it to your savings or checking accounts. This is because another financial institution is where you have your checking and saving. 

The idea here is you start with a very low threshold level of pain and never quit the direct deposit to the fund. As your life changes because of marriage, children, home ownership, etc. your emergency exposure changes. 

You may even want to continue the direct deposit from your retirement pension. Remember you will have expenses in retirement. Never stop? Okay, permit yourself to stop when you have a year’s worth of expenses. 

I never mentioned the word budget up till now in this article. My experience with financial planning is tying the emergency fund process to a budget can generate inertia. If there is no budget its nonexistence can become an excuse to delay the pay period deposit for the emergency fund until a budget is created. If a budget exists, it probably doesn’t have an emergency fund allocation. That means the budget has to be revised. Sometimes delay, for any reason, evolves into procrastination. 

Remember, many have no emergency fund savings. What can be done? Going from zero to over $3,250 in five years with the inconvenience of a few dollars a month is a slow way to start up an emergency fund. If you can tolerate more inconvenience, make larger contributions. The CEO and Co-Founder of Biz2Credit, Rohit Arora, tells us the key to achieving any resolution is to set small goals. Achieve little victories for big results.

About the Author

Francis Xavier (FX) Bergmeister retired from the USMC and the F.B.I. Consider following him on LinkedIn as he shares articles from others about retirement and other financial topics. He also provides retirement seminars thru Federal Career Experts.