Mellody Hobson covers the importance having an emergency fund.
Mellody: It may seem like it is simply common sense to save up some money for a rainy day, but the truth is a huge number of people are not doing it, leaving them unprepared financially. According to an annual survey by Bankrate.com, 29 percent of Americans don’t have any money set aside to cover emergencies. That number is up from 26 percent last year, and represents the lowest saving rate the survey has found in five years.
Why is an emergency fund so important?
Mellody: Put simply, without one you are living on the edge, and not in the positive sense. People who do not have some money set aside – nearly 1 in 3 Americans – are just one event away from financial disaster. While the phrase emergency fund may sound ominous, and it may seem like it cannot happen to you, think again. The purpose of an emergency fund is not just to protect you in the event of a health emergency (though 60% of personal bankruptcies are a result of medical costs) or even a car accident.
Emergency funds are there to protect you from some very common occurrences that could really hit you where it hurts – your finances. What if you get laid off? What if your water heater breaks down? What if you have to move? All of these things can be very challenging for you financially and put you in a real pickle if you do not have something set aside to fall back on.
Why are so many people not saving?
Mellody: There are a few reasons here. First, many people are already facing tough financial circumstances, without trying to put money away. a separate survey found that nearly a quarter of people report struggling just to “keep up with” monthly bills such rent or mortgage, utilities or car payments and 10 percent of respondents reported spending more than they earn. We can place a lot of the blame on stagnant wages that have not kept up with rising costs.
The second thing that prevents people from saving up for unforeseen events is the feeling that saving is a burden or hardship. Some people view the idea of having to save up money as some form of restriction or even punishment, because money you put away is money that you should not spend. Finally, many people simply do not know where to start, or believe they cannot start.
What would you tell people who are first-time savers, or who are on a tight budget?
Mellody: First, let me say this: starting an emergency fund should not be stressful – it should help give you peace of mind, because it is putting you in a better financial position over time. In that spirit, the biggest thing to remember is simply to start with what you can afford, even if it is small.
If you save $25 per month, by the end of a year you will have $300, which can go a long way toward a car repair or some other unexpected expense. Once you have determined what you can afford, make it automatic – simply have it deducted from your paycheck or your checking account each month and placed into a separate savings account that you do not touch.
One last thing – what should be our goal?
Mellody: Ideally, you really want to try to accumulate enough money to cover 3 months of expenses – that means rent or mortgage, groceries, car payment – everything. Once you get there, you want to continue to build that up. if you save enough money to cover 6 months expenses, keep saving, but just try to put saved money towards your retirement!