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Saving for a rainy day fund is a great way to prepare yourself for an emergency-like situation. A good rainy day fund saving will also prevent you from getting into any type of debt – high-interest credit card debt or a personal loan. Most importantly, it will give you some peace of mind to think that your finances and budgeting goals are on track. This is especially essential for someone who may be living from paycheck to paycheck.
Something similar to this is known as a sinking fund in the business world. It’s a fund many businessmen keep aside to pay off a loan or debt.
So, how much should you save in a rainy day fund, and how is it different from an emergency fund?
What is a rainy day fund?
A rainy day fund refers to funds allocated for unforeseen and relatively inexpensive expenditures. These could be minor home repairs, home maintenance, or for paying off parking fines. It differs slightly from an emergency fund in terms of its size and purpose. This account need not be as big as an emergency fund.
While a rainy day fund caters to smaller unexpected costs such as purchasing new tires for your car or repairing home appliances, an emergency fund is specifically reserved for unforeseen circumstances or significant life changes, such as sudden unemployment or divorce. It’s a good idea to maintain both a rainy day fund and an emergency fund. Both savings are financial safety nets that protect you from life’s uncertainties.
In fact, creating a rainy day fund before allocating resources to your emergency fund is comparatively easier to save for. Also keep in mind that you are more likely to utilize your rainy day fund for frequent occurrences such as a malfunctioning fridge or plumbing issues, as compared to a major life-altering emergency.
Which expenses should a rainy day fund cover, ideally?
You can start money saving to cover smaller home expenses such as car repairs, fixing a washing machine, or buying a new air conditioning unit.
Some other examples where you can utilize this fund include paying for a medical procedure or a doctor’s visit, a window replacement, vehicle maintenance, or buying a new phone. Although these expenses are essential, they are not as drastic as the reasons that warrant tapping into your emergency savings.
Which expenses does an emergency fund cover?
An emergency fund is a good way to help you out in a crisis. It covers emergency expenditures that need your urgent attention – leaving you with no option but to spend money. These could be an unexpected job loss, (with no other source of income), a sudden medical expenditure, or relocation to a new place.
Another reason for digging into your emergency fund is if you’ve lost a significant amount of invested money in an economy that’s in recession.
Where should you keep your rainy day fund?
Ensure that your emergency savings are kept in a readily accessible account. For example, a high-yield savings account where you can quickly and conveniently make withdrawals without incurring any fees. The key is to earn interest on your funds while still having immediate access to them whenever needed.
Furthermore, it is crucial to maintain separate accounts for your emergency fund, rainy day fund, and daily savings. This step will help you avoid the temptation of using those funds.
When should you save money for a rainy day fund?
Saving money doesn’t have any drawbacks. In the face of any crisis, be it significant or minor, you can rest assured that your financial situation will not contribute to your stress. It will already be effectively managed, allowing you to focus on the necessary tasks at hand. It’s a smart idea to transfer funds whenever possible or, at the very least, once a month to ensure a steady cash flow.
What are the benefits of a rainy day or an emergency fund?
The advantages of saving money in an easily accessible fund are priceless.
- You get immense financial security as a rainy day or emergency fund serves as a financial safety net – providing a cushion to cover unexpected expenses without relying on credit cards, loans, or going into debt.
- It helps protect you from financial shocks and provides peace of mind.
- It doesn’t disrupt your regular budget or lifestyle.
- The fund gives you flexibility and freedom to make financial decisions regarding unexpected expenses and temporary monetary setbacks.
- It’s a great buffer against financial risks such as job loss, market downturns, or economic uncertainties.
- The fund can also enable you to take advantage of opportunities such as investments, career changes, or entrepreneurial ventures without compromising your financial stability.
- It safeguards your other savings accounts from depleting.
How much should you save each month?
According to financial experts, it is recommended to have an emergency fund that covers approximately three to six months of your fixed monthly living expenses. These expenses include rent, homeowners insurance premiums, gas, and electricity bills. You may also choose to incorporate variable household expenses such as grocery shopping and entertainment into the fund. Another factor that goes into estimating how much money to budget into your rainy day fund is the age and functionality of your major home appliances, especially those no longer covered by any warranty.
Many experts recommend keeping aside a minimum of $500 to $2,000 for a rainy day fund. However, keep in mind that the specific amount you should aim to save depends on your lifestyle and financial situation. For instance, people living alone or those with less stable income sources, such as an entrepreneur or a freelancer, may find it safer to save for six months for an emergency fund.
How to create a rainy day fund?
To start and maintain a rainy day and emergency fund, follow these steps:
- Create a budget by tracking your expenses for 30 days. Differentiate between fixed and variable costs, and decide the percentage of variable costs to contribute to each fund.
- Set your savings goal and break it down into achievable milestones. Start by making small savings which will eventually add up and help address immediate financial needs.
- Automate your savings by setting up a monthly direct debit from your account to your savings account to make saving automatic and avoid temptation.
- Adjust your budget monthly. Be flexible and review your budget regularly to ensure you can afford the planned contributions to your emergency and rainy-day funds.
- Reward yourself for reaching significant savings milestones. This will make the process enjoyable and increase motivation to stick to your goals.
How to boost your rainy day fund?
Saving money might be simpler than you imagine. If you’re facing difficulties in initiating your savings for emergencies, here are some great methods to generate extra cash and give yourself a head start:
- Instead of spending tax rebates, work bonuses, or gift money, deposit them directly into your bank account.
- You may want to earn extra money by putting in some additional hours at work to boost your cash flow.
- Use this opportunity to sell unused items online and declutter your home simultaneously.
- Challenge yourself to a month of spending less. Or, you could designate one day each week as a spend-free day.
Starting to save money as soon as you begin earning is one financial advice that will always help you. Unforeseen circumstances can arise at any time, hence the importance of preparedness and financial management.
In the United States, insufficient savings is a prevalent issue as revealed by the Federal Reserve, which found that 28% of American adults would struggle to meet their monthly obligations if faced with a sudden expense of $400.
Without readily available funds, many people resort to credit card debt to cover sudden expenditures. This is where the concept of a rainy day fund becomes relevant. It serves as a wise strategy to stay on track with budgeting goals and avoid falling into debt with high interest rates.