What is the Appropriate Emergency Reserve Amount for You?

EmergencyFundCalculatorThe primary purpose of an emergency reserve (a.k.a., a rainy day fund) is to provide a cushion to protect you and your family in the event of an unforeseen and unexpected financial emergency, such as the need for new tires or a new water heater. While an emergency reserve equal to one months’ committed living expenses is a fantastic place to start and should mitigate many of life’s little unbudgeted emergencies, a job loss, divorce, extended illness, or other disability could require many months’ worth of expenses.

Contrary to popular belief, when it comes to emergency reserves there is no set or standard amount that applies to everybody universally, even if many in the financial arena say otherwise. Rules of thumb range from one to 12 months of a family’s household income. However, because the account is an emergency reserve, in my opinion, the amount of reserves should be based on the minimum amount of money needed to cover your monthly living expenses and not your monthly income, but the choice is yours.

Circumstances vary from family to family and to say that every family should have an amount equal to 6 months or 12 months of their household income in emergency reserves is excessive and overly simplistic in my opinion. While 6 month’s reserves may be appropriate for one family, 3 months may be appropriate for another family, and 9 months may be necessary for yet another family.

So the question is how many months’ expenses is enough?

What Should You Consider?

There are three primary factors to consider when determining your personal level of emergency reserves and they are the following:

  • The number of sources of family income. Is your household reliant on one or two income earners?
  • The nature of the business supporting those sources of family income. A tenured professor simply has more job security than a freelance artist.
  • The variability in those income sources.Is your income derived from a pure salary or based largely or completely on bonuses and/or commissions?


How Much Is Enough?

Consider the following formula a guideline for determining your personal level of emergency reserves:

  • Three months’ expenses for dual-income households with salaried workers in stable jobs in stable industries
  • Four to six months’ expenses for single-income households with a salaried worker in a stable job in a stable industry
  • Six months’ expenses for dual-income households with variable incomes in stable job in stable industries
  • Seven to nine months’ expenses for single-income households with a variable income in a stable job in a stable industry or a salaried worker in an unstable industry
  • Nine to twelve months’ expenses for dual or single-income households with variable income in a stable job and/or cyclical or volatile industry
  • Twelve months’ expenses or more for self-employed households or business owners

The logic behind the formula is the following: If someone lives in a dual income household with both income earners in a stable industry, probability would suggest that it is unlikely either would lose his or her job; but if one of them did, it could take up to a few months to shine up the resume’ and find a position meeting his or her expectations. Three months’ committed living expenses in an emergency reserve will allow you to continue to pay your ongoing living expenses, preserve your credit score and credit history, and will go a long way toward easing the tension and anxiety that is sure to result from such an occurrence. The additional months tacked on to other income situations reflects their household potential for increased financial risk.

Risk UmbrellaRegardless of your current financial situation, as shown by the emergency reserve formula, the goal should be to achieve a minimum of three months’ committed living expenses. You will be prepared in the event you run into one of those financial perfect storms in which a job loss is followed by a leaky roof and a new transmission in the minivan.

For many people that may not be possible, initially, so the first milestone is to get one month ahead of your living expenses. If coming up with one month’s living expenses seems too daunting, begin by growing the account to $1,000, then progress to $2,000, and so on. There are many ways to fund an emergency reserve, such as a Home Equity Line of Credit.

Call us to find out how you can take back control of your money and finances. We have created a free report that provides a detailed strategy for establishing an emergency reserve of your own. Click here to download a copy of our free report entitled “The Emergency Reserve.”

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