A Step-By-Step Guide to Building an Emergency Fund

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An Emergency Fund is one of the cornerstones to long-term financial security. But building an Emergency Fund is a huge financial undertaking.

One of the biggest struggles to building an Emergency Fund is emergencies happen and drain the amount you’ve saved. This is ok! You can think of an Emergency Fund as a two steps forward, one step back type of deal, because that’s probably how it will go for a long time.

How long will it take to save an Emergency Fund?

This might shock you but expect to spend 2 to 5 years building your Emergency Fund.

Yes, you read that right! It will take you years to save up a proper Emergency Fund. If this shocks you, think about it this way: since you need to save as much as 1 year’s worth of income or expenses, how could you do that in less than a year?

Like most things in personal finance, saving an Emergency Fund is a marathon not a sprint. Prepare yourself accordingly!

Where do I save my Emergency Fund?

You need to keep your Emergency Fund liquid and accessible. This means it needs to be all in cash and you have to be able to get to it within minutes if you need it. For this reason, you need to keep your Emergency Fund in a high-interest savings account.

EQ Bank offers one of the best interest rates in Canadian banking. Their Savings Plus Account also has a lot of flexibility in terms of bill pay and Interac eTransfers so you can always get your money when you need it. Read more in our EQ Bank Review.

How big of an Emergency Fund do I need?

Figuring out how much you need for an Emergency Fund is straightforward. You have two options for how much you want to save.

Saving 6 to 12 months of income

An Emergency Fund of 6 to 12 months of net income is an excellent goal if you’re employed in any kind of freelance, temporary, seasonal, or contract work.

Since you have to save up 6 months of income before you can save up 12 months of income, it’s worthwhile to make a 6-month Emergency Fund your first goal. It’s easy to calculate how much this is! If you earn $40,000 per year, then your six-month emergency fund will be $20,000.

Saving 6 to 12 months of essential expenses

If you are employed in any kind of permanent position with no foreseeable disruptions to your income, then an Emergency Fund of 6 to 12 months of essential expenses might make more sense.

An Emergency Fund based on essential expenses will be smaller than an Emergency Fund based on income. This is because our income usually (or at least should!) be larger than our expenses.

Additionally, if you do find yourself in a position where you need to use your Emergency Fund, like during a layoff, your expenses will be lower then when you’re regularly employed. This is because your other financial goals will take a backseat. You’ll stop making contributions to your retirement savings, you might slow down your debt repayment.

How to build an Emergency Fund

The first thing to note when you’re building an Emergency Fund is it will take time. Lots and lots of time. Probably years.

But don’t let the time discourage you! All great financial goals take time. Think about saving for retirement: that takes your entire working life!

Get the first $1,000 in a lump sum

How to get your first $1,000 for your Emergency Fund:

  • use your income tax refund
  • sell items you don’t need

Focus on growing your Emergency Fund to $3,000

Once you’ve saved $1,000 in an Emergency Fund, your next target should be $3,000 to $5,000.

$3,000 is a comfortable Emergency Fund if you’re single and have no dependents. If you’re part of a couple or have a child to care for, then you might want to set your target higher at a $5,000 Emergency Fund.

An Emergency Fund of $3,000 to $5,000 is when you start to feel comfortable because unlike your tiny $1,000 Emergency Fund, it’s unlikely to be wiped out by one single Emergency. You’ll find even if you have to make a withdrawal for a $600 or $1,500 emergency, it will feel easier to “pay it back” than start from scratch.

Automate your Emergency Fund contributions until you hit 6 to 12 months of savings

Once you have $3,000 to $5,000 saved in an Emergency Fund, you can relax a little. You might even redirect some of the cash you’ve been using to build up your EF towards your retirement accounts now. But you can’t stop saving!

Now that you have the foundation of your Emergency Fund, you want to automate your savings contribution until you reach your target balance. As mentioned above, this could take years.

Thankfully, this is the easy part. In fact, you can set your EF contributions to as little as $20 per week and the account will continue to grow at over $1,000 per year, plus interest!

Using your Emergency Fund for emergencies

Once you have an EF, it’s important to only use it for what it’s actually for: real emergencies.

As your cash balance grows, you’ll be tempted to cash it out for non-emergencies, or label non-emergencies as emergencies to try to justify a withdrawal. This doesn’t hurt anyone but you!

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