You may think you have your financial house in order – you have a plan, you’re contributing to your 401(k), you’ve paid down your debt, you’ve started a college fund, and you’ve insured everything that needs to be insured. But if you have yet to build an emergency fund that can support your living needs for a period of six to 12 months, you’ve left your front door wide open for the worst of financial disasters to enter.
You wouldn’t expect it, but at anytime a long term illness or a debilitating accident could result in a loss of income. Or, you could become one of the unfortunate 9% who’ve lost their jobs to layoffs. All told, the odds are fairly decent that the unexpected will happen, you just won’t know when.
Many people rely upon their credit cards or the access to their 401(k) funds as “emergency funds,” but that it also playing with fire as interest costs can drive your debt up higher and, if you should leave your employer, you’d need to repay your 401(k) loan immediately.
The best course of action is to establish a liquid savings account, preferably a high yield account such as a money market account. If you have to divert a small portion of your cash flow away from retirement savings, debt reduction or non-essential expenditures for awhile, you will shore up your short-term financial security. Shoot for six months worth of living expenses as an initial target and then add to it as your excess cash flow allows.