Step Four: Finish Your Emergency Fund

Most serious participants that go through this process take eighteen to twenty months to get to step four, but consider what you have accomplished. You have $1,000 cash and no debt except for your home mortgage. What an awesome feeling! Now that all of your payments are gone, except for the house, this step in the process should sail along.

A fully funded emergency fund covers three to six months of your expenses. So you need to ask yourself what it would take for you live three to six months if you lost your income. For most families, this amount is between $5,000 and $25,000. 

So how do you determine how many months worth of expenses to use for your emergency fund? It depends how risky your situation is. For example, if you earn straight commission, are self-employed, your job is unstable, or there are chronic medical problems in your household, you should use the six-month rule. 

If you a have a good, steady, secure job and have been with that company or government agency for fifteen years, you could lean toward the six-month rule. I would tend towards the six-month rule because recent events in the economy have shown us that what we thought were secure jobs are being eliminated right and left.

Money magazine reported that 78 percent of us will have a major unexpected event happen to us in the next ten years. And a poll in Parenting magazine said that 49 percent of Americans could cover less than one month's expenses if they lost their income. Can you imagine what it would feel like to have no payments except your home and $10,000 in the bank just for emergencies?

The definition of an emergency is so important, that I want to go over it again.  An emergency is something you had no way of knowing was coming, something that has a major impact on you and your family if you don't cover it. That includes paying insurance deductibles, a job loss or cutback, bills from accidents or a blown transmission in a car that you need to create income. 

  • Something on sale you 'need' is not an emergency.
  • Fixing the fishing boat is not an emergency.
  • Wanting to start a business is not an emergency.
  • Wanting to buy a new car is not an emergency.
  • Telling yourself you need a vacation is not an emergency.
  • College tuition is not an emergency.
  • Prom dresses are not emergencies.