Emergency Savings: is 6 Months Still Enough?
I was perusing unemployment duration data on the BLS website recently (yes, this is what personal finance bloggers do) and noticed that in the month of July, the average duration of unemployment was up to 40.4 weeks. That’s up from 32.6 weeks during the same month last year.
If you dig back through the BLS unemployment archives you’ll notice that there were very few months where that number exceeded 20 weeks.
A recession, of course, will result in higher lengths of unemployment. But I think this is different. I think we’ve entered a new era of hardcore job cutting and hesitation to hire at the slightest sign of economic trouble, in the name of profitability. Job security is fairly non-existent.
Consider this for a moment – would there have been such a deep recession if employers hadn’t laid off so many people right away? It’s kind of a self-fulfilling prophecy: employers see murky economic indicators and want to keep profits the same despite lower revenue -> they lay people off -> others see their peers getting laid off and spend less -> leads to deep revenue declines. Sure, corporate profits may have slightly stung for a quarter or two, but could the economy have bounced right back? One has to wonder… but I digress.
How Much Emergency Savings is Enough?
The point I wanted to make is this: the traditional advice is that 6 months of living expenses in emergency savings is enough. However, with the average unemployment duration at 40.4 weeks, 6 months (or 26 weeks) is no longer enough, particularly when you take into account the possibility of medical emergency, pet operations, or other unforeseen circumstances.
What is a good length these days?
1 year, at a minimum.
Right at the beginning of the recession, my wife was laid off for a few months. Having received unemployment, I can tell you that it’s enough to maybe cover your food expenses – but housing, transportation, and everything else? Forget about it. If you’re in a one income scenario, you will really be put in a tough situation if you are unemployed.
If you have a mortgage, even in a two-income household, you are going to feel it. When you’ve been there, you understand the importance of the stability and peace of mind an emergency savings fund can offer. And they are really quite simple…
How to Prepare an Emergency Fund
- Figure out how much you need: use a budgeting spreadsheet and go back and look at what your actual expenses were over the last 12 months. Total up how much it would take to cover your living expenses over 12 months based on your findings.
- Start saving: if you have savings already built, move it to a separate emergency savings account that you won’t dip in to.
- Let it sit! the goal is to not get this money tied up in things where you cannot access it. Traditional advice has been to let it sit in a savings account or money market account, which are both highly liquid. The problem with this is the earnings are pitiful. A good would be to keep 3 months in an interest-bearing savings account and keep the remainder in a CD like the Ally Raise your Rate CD, which offers 1.8% right now and it can be raised if rates go higher. This allows you to avoid some of the erosion impact of inflation. The early withdrawal penalty is only 2 months of interest earned if you need to access the funds before the term is up.
Emergency Savings Discussion:
How much do you have or want to have in emergency savings?