One of the first steps to getting your finances under control is setting up an emergency fund to cover unexpected expenses. You should keep your emergency fund in a money market account or a CD ladder. When you do this, it is important to determine what constitutes a real emergency and what does not. Here are five questions to ask yourself before you use your emergency fund.
Before you use your emergency fund, you need to look at your budget and see if there is anyway that you can cover these expenses by moving money around for the month. For example if you are putting extra money towards debt, could you stop paying the extra this month to cover the expenses? Or could you move money out of several smaller categories to cover the expense. This is the best way to deal with it so that you do not have to rebuild your emergency fund again.
Are you out of food money because you overspent your entertainment allowance? Was the emergency created because you didn’t follow your budget effectively or did it happen as a result of unforeseeable circumstances? For example if you know you can buy new glasses every other year, than you need to budget for them in the meantime Buying the new glasses is not an emergency, but if they broke unexpectedly and you have to replace them then it is an emergency. Can you prevent a similar emergency in the future by doing regular maintenance on your car or home?
3. Is It a True Emergency?
Is this a true emergency or is there a temporary solution to the problem that will allow you to get by until you have saved up the money? For example if you computer dies, can you borrow one from someone until you save up the money to replace it? Additionally, a great sale on that pair of shoes you’ve always wanted or the big screen television you’ve been dying to have does not constitute an emergency.
4. Can You Reduce the Cost of the Emergency?
You may be surprised at the number of ways you can work around spending a lot of money on repairs and other problems. Can you repair the item instead of replacing it and reduce the cost of the emergency? Can you get used parts instead of new to repair your car? Can you make the repairs yourself? Could you trade your skills with someone else to cut down on the costs? You can even shop around to find the hospital that will charge the lowest price on a surgery or the doctor that charges the lowest amount if you have a medical emergency. (Of course if it is life threatening you may not have the time to do this.)
As you get better at budgeting and get out of debt you should create sinking funds that you regularly contribute to in order to cover the big expenses such as car and home repairs. This could also include the deductible for your insurance, and your out of pocket maximum. Soon you will only be turning to your emergency fund when you have suddenly lost your source of income. You can set up sinking funds for nearly any planned expense you may encounter. Once you do this you will not dip into your emergency fund as often.