How much in emergency funds should you have? What are the different schools of thought, and how should one go about it?
Well, the amount you should have in emergency funds depends on your financial situation, risk tolerance, and lifestyle, but there are several widely accepted schools of thought. Here’s a breakdown of the main approaches, their rationale, and practical steps to build your emergency fund:
Common Schools of Thought on Emergency Fund Size
- 3-6 Months of Living Expenses (Standard Rule of Thumb)
- Who recommends it: Most financial advisors, including Dave Ramsey (for fully-funded emergency funds).
- Rationale: Covers most common emergencies like job loss, medical bills, or any unexpected repairs. Three months suits those with stable jobs and dual-income households, while six months is better for single-income households, freelancers, or those in volatile industries.
- Amount: Calculate your essential monthly expenses (housing, utilities, food, insurance, transportation, minimum debt payments). Multiply by 3 or 6. For example, if monthly expenses are $3,000, aim for $9,000–$18,000.
- Pros: Balances accessibility with sufficient coverage for most emergencies.
- Cons: May feel excessive for high earners with stable jobs or insufficient for those with irregular incomes.
- 6-12 Months of Expenses (Conservative Approach)
- Who recommends it: Advisors focused on high-risk scenarios, like those in cyclical industries or with dependents.
- Rationale: Provides a larger buffer for extended unemployment, major medical emergencies, or economic downturns. Ideal for self-employed individuals, single parents, or those with high financial responsibilities.
- Amount: Multiply monthly expenses by 6–12. For $3,000 monthly expenses, aim for $18,000–$36,000.
- Pros: Offers peace of mind in worst-case scenarios.
- Cons: Ties up significant funds that could be invested elsewhere, potentially reducing returns.
- $1,000 Starter Fund (If you’re starting out)
- Who recommends it: Dave Ramsey, specifically for those with high debt (Baby Step 1).
- Rationale: A small, achievable fund covers minor emergencies while focusing on debt repayment. After debt is cleared (except mortgage), expand to 3-6 months.
- Amount: Fixed at $1,000 initially.
- Pros: Quick to achieve, motivates debt repayment.
- Cons: Insufficient for major emergencies; requires discipline to expand later.
- Tiered Emergency Fund (Hybrid Approach)
- Who recommends it: Some modern financial planners, like Ramit Sethi.
- Rationale: Balances liquidity and investment. Keep 1-2 months in a checking or savings account for immediate access, and 3-6 months in a high-yield savings account or money market fund for slightly less liquidity but better returns.
- Amount: Split your fund, e.g., $3,000 in checking, $9,000 in high-yield savings for $12,000 total (4 months at $3,000/month).
- Pros: Optimizes interest earnings while maintaining quick access.
- Cons: Requires more management and discipline to avoid dipping into funds.
- Income-Based or Risk-Adjusted Approach
- Who recommends it: Customized advice from financial planners.
- Rationale: Tailors the fund to your specific circumstances—job stability, health, dependents, or lifestyle. High earners with stable jobs may need less (e.g., 3 months), while freelancers or those with chronic health issues may need 12+ months.
- Amount: Varies widely. Assess risks (e.g., likelihood of job loss, medical costs) and adjust. For example, a freelancer with $5,000 monthly expenses might aim for $30,000–$60,000 (6-12 months).
- Pros: Highly personalized, efficient use of capital.
- Cons: Requires thorough self-assessment and may be hard to calculate.
How to Build Your Emergency Fund
- Assess Your Needs
- Calculate monthly expenses (essentials only, not discretionary spending like dining out).
- Evaluate your situation: job stability, dependents, health risks, home/car repair likelihood.
- Choose a target based on the above schools of thought (e.g., 3 months for stable jobs, 6-12 for volatile ones).
- Set a Realistic Goal
- Start small if $5,000 feels achievable, then scale up.
- Aim for 1 month’s expenses first, then incrementally add until you hit your target.
- Choose the Right Account
- High-yield savings account: Offers 3-4% APY (as of 2025), keeps funds liquid, and earns interest. OCBC 360 account currently offers up to 3.30% p.a. with Salary, Spend and Save.
- Money market account: Slightly less liquid but safe, with similar yields. Chocolate Finance currently offers the same 3.3% p.a. without jumping through any hoops, up to S$20,000.
- Automate Savings
- Set up automatic transfers to your emergency fund account each payday.
- Start with a small amount (e.g., $500/paycheck) and increase as your career progresses.
- Use your bonuses to power up the fund.
- Boost Income
- Properly plan your annual performance review and fight for that increment. Any additional increment you manage to negotiate is added to your base salary, and it’s a one-time effort that continues in perpetuity.
- Consider side hustles to accelerate savings.
- Protect and Replenish the Fund
- Only use for true emergencies (job loss, medical bills, urgent repairs), not wants (vacations, new gadgets).
- Replenish after use by resuming automatic transfers or redirecting extra income.
My Personal Emergency Fund
For me personally, having experienced a job loss impact during Covid, I tend to be more conservative, and opt for closer to 8 months of liquid expenses. A bulk of my portfolio are also in more volatile investments, and so for that reason, I am skewing conservative, so that I don’t get forced out of my positions.
What about you?