How to Start Building Your Emergency Fund in 2020

July 2020

The short answer? By putting one financial foot in front of the other.

Welcome to the year of “Oh, shit, maybe I should cancel that Orangetheory membership and cut back on the Seamless.”

Thank you, Coronavirus, for waking us up to the fact that maybe – just maybe – it’s worth taking a more intentional look at the way we’re spending, how much we’re saving, and if we’re investing properly.

I say this with only an almost-undetectable tinge of sarcasm, since in some ways, I do think this wake-up call helped a lot of us course-correct.

Today, I want to take a look at how to consider your financial life holistically – a sanity check, if you will, that the way your money breaks down makes sense. Not emotional sense, but mathematical sense. Because sure, you may have found a way to justify the $800 in DoorDash monthly purchases (“I work hard!”), but if that represents 25% of your total take-home pay… you have to wonder, does this make sense arithmetically?

One of the burning questions that initially drove my interest in personal finance a few years ago was this:

How much should I be saving and investing every month?

The short, simple, and frustrating answer is, As much as you possibly can.

But how do you balance “as much as possible” with “not wanting to be a hermit”? You turn to the numbers.

Let’s start big-picture. What percentage of your income should you be aiming to save and invest every month, broadly speaking? The minimum (take a deep breath) is around 20%.

While this isn’t going to be realistic for everyone (especially those with high student loan debt and low starting salaries), it’s more realistic than I think we’re willing to collectively acknowledge. There’s a clear and distinct difference between, “I can’t save 20% of my income because I have to pay $1,000 toward my grad school loans every month,” and, “I can’t save 20% of my income because I’m living beyond my means.”

This distinction makes people understandably squeamish, because it can feel like there’s judgment attached to the qualification of “beyond my means.” And if you grew up in a house where you watched the adults casually and consistently overextend themselves financially, it’s even more likely that this pattern will appear in your own spending habits.

The good news is, you are in control now. Every swipe, tap, or insertion of the Sapphire card is wholly and inescapably yours. You can break the pattern, if there is one.

For most, though, it probably isn’t a convoluted, emotional relationship with money – it’s just simple awareness.

But jumping into individual investing before you have an emergency fund is like entering a BMX race before you take off the training wheels for the first time. The enthusiasm is helpful and admirable, but ultimately misguided. The emergency fund is the basis for financial security.

“Setting boundaries” becomes “building a launchpad”

So while 20% is the number we’ll start with, I want you to consider what 30% (or maybe even 40%) would look like. Let’s expand the consideration of saving from denying yourself joy in the present to prioritizing your future desires.

The human brain is pretty bad at this. It takes work and awareness. We’ve been evolutionarily conditioned to place more value on the reward right in front of us than the delayed gratification of a (sometimes much bigger) reward 5 years from now. Because hey, in the age of wooly mammoths and a life expectancy of 20, why the hell would I bet my cave paintings on compound interest when the fancy fur pelt is right in front of me?

Let’s evolve past caveman personal finance policy.

We aren’t denying ourselves the fur pelt now. We’re casting a vote for a future version of ourselves who has grown wealthy enough to buy the entire herd of sheep.

And because I’m running out of prehistoric analogies, let’s shift to the numbers.

An example

20% is not meant to intimidate or agitate you – it simply provides a target. Let’s use an example.

If my salary is $50,000 and my company offers a 6% dollar-for-dollar 401(k) match, the first thing I should do (assuming I’m debt-free; if you’re not debt-free, consider jumping to this post about how much your life costs that digs into debt strategy) is set my 401(k) contribution at 6%. This is the preemptive strike – it seizes the free money being offered to you and casts a vote for the gray-haired, shuffleboard-playing future version of you.

Your first 6% toward your goal of 20% is knocked out. And really, since that decision means your company is now contributing 6% as well, it’s a little like you’re at 12%. But we aren’t stopping there.

Next, let’s circle back to layer one: Savings.

When it comes to simple savings, your emergency fund is technically your #1 priority, so shoveling as much money into your emergency fund as possible is the blunt-force approach.

And how much should be in your emergency fund? I know we all say it’s 3-6 months of expenses, but unfortunately, most of us don’t know exactly how much that is (again, I direct you to the article about determining how much your life costs).

After working with about 50 different clients via Matriarch Financial, I think the round number I can offer you is this:

Yours is probably about $15,000, give or take.

Whether seeing “$15,000” either made you sigh in relief or draw a sharp inhale tells you exactly what your next step is:

If you’re nowhere near $15,000 in savings, let’s forget about investing for a second – the first and only priority (beyond the 401(k) match) is hitting this number.

Where to build your emergency fund if you’re just starting

My favorite place to build an emergency fund is the Betterment Safety Net account. It’s technically a low-risk investment account that uses an 85% bonds and 15% stocks mix to grow slightly more aggressively than even a high-yield savings account would, since it’s actually invested.

With the recent drop in interest rates, an account like this is still inclined to offer returns where your beefy 2.7% Ally rate probably dropped closer to 1%.

In our $50,000/year example, the take-home pay after tax is probably about $3,125/month after taxes, and $2,875/month after you take out the 6% 401(k) contribution we decided on earlier.

So there you are, with your $2,875/mo. – and 6% of your 20% already checked off.

If you’re building an emergency fund, shoot for depositing the remaining 14% right into the emergency fund account of your choosing. That’s $402.50 per month, or $201.25 per paycheck. Automate it so you don’t have the chance every month to change your mind.

I know.

I know it might feel like a lot – because realistically, compared to the way that most of us probably save (sporadically here and there with no real system in place), it is.

But this means that 26% of your $50,000 per year is going toward Future You instead of Present You (your 6% contribution, your employer’s 6% contribution, and your 14% contribution to your emergency fund). That’s $13,000 per year!

If you were to shoot for 30% (or 36% including your employer’s contribution), it would look more like $862.50 per month in emergency fund savings, and $18,000 going toward Future You.

Your first $100,000

Even if you never got a raise, increased your contributions, and your money didn’t grow AT ALL (which isn’t realistic, since it’ll be invested), you’d have more than $100,000 in six short years.

What were you doing six years ago? It probably doesn’t feel like that long ago. If you had started doing this back then using the numbers in this example, you’d have a minimum of $100,000 today.

Realistically, if you’re saving 30% of your income, this means the paycheck that typically nets you $1,437.50 after taxes and 401(k) will leave you about $1,000 to spend – but it’ll be money you can spend guilt-free, because you know you’ve already paid the most important person in the equation: Future You.

Of course, these examples become far more eye-widening when you start using larger salaries. The ironic part? It also becomes increasingly easier to achieve – living off 80% of $50,000 is a little more difficult than 80% of $85,000. This is why negotiating for a strong salary is arguably the most important part.

Once you cross the finish line

After the emergency fund is stocked, it’s time to sit back, feel smug, and celebrate.

Then we transition to investing, which is gargantuan enough to be a topic for another day – stay tuned!