Imagine you’ve just paid your rent, put a little cash towards your credit card bill and budgeted out your remaining paycheck to cover groceries, bills and your share of a weekend at the beach. Then the next day your tire goes flat on the freeway and you find out your dog needs emergency surgery.
Are you prepared to cover those sudden, unexpected expenses? Unfortunately, financial emergencies can sometimes have the power to send finances into a downward spiral. One way to combat this is with a rainy day fund.
What is a rainy day fund?
A rainy day fund is a type of short-term emergency fund designed to make sure that financial setbacks, like four new tires or Buster’s broken paw, don’t send you into a financial spiral.
According to the Federal Reserve Board’s Report on the Economic Well-Being of U.S. Households, 12% of American adults wouldn’t be able to pay all of their current month’s bills in full if they had to pay for an unexpected $400 emergency.
A rainy day fund can help you avoid having to face that difficult situation. In short, a rainy day fund might help you weather those unexpected costs and keep your finances sailing smooth.
How much money should I keep in a rainy day fund?
How much money should be in your rainy day fund? In general, you may want to consider keeping about one month’s worth of expenses in your rainy day fund.
Saving the equivalent of one month’s worth of expenses can help cover medical bills, home repairs, car trouble, or even emergency plane tickets to visit a sick family member. While the exact amount is up to you and depends on your specific circumstances, one month is a good baseline goal to get most people started.
In order to figure out what one month’s worth of expenses looks like, take a look at your budget. If you don’t have a budget in place, take a deep breath and grab that stack of monthly bills or pull up your online banking account.
You should be able to get a good idea of your monthly expenses by looking at the money you spent last month keeping you and your family fed, clothed, and housed.
Look at rent or mortgage payments, healthcare, utilities, car payments, food costs and any loans you’re working on repaying. That total is about what you would need to survive for a month and can serve as the baseline goal for the rainy day fund.
Once you’ve got one month’s worth of expenses saved, you may want to consider keeping more substantial emergency savings in a “freedom fund,” designed to give you the freedom to walk away from a bad work environment, cover larger emergencies, or pay yourself if you’re unexpectedly let go from your job.
Freedom funds are generally larger than rainy day funds because they’re intended to protect you for a longer period. Together, a rainy day fund and a freedom fund could serve as a safety net to help you if you face unexpected expenses.
Knowing that you can fall back on those reserves could give you some peace of mind — if the worst happens, you won’t have to worry about maxing out your credit card or over-drafting your bank account.
How to save up a rainy day fund
Saving can be hard. After all, who wants to put money away from later when there is avocado toast and flavored seltzer to buy and fancy brunch to eat?
However, there’s a lot to be said for the delayed gratification that comes with building up a healthy savings account. But how do you start saving a rainy day fund?
The simplest way is to start stashing away money for a rainy day is as simple as setting aside a dedicated amount every week or month. Take a look at your budget and see what you have left after you take care of all your monthly expenses.
This money — the difference between your take-home pay and your cost of living — is your discretionary income, which comes with some flexibility and you can save (or spend it) as you see fit.
Allocating some of this discretionary income to start your rainy day fund could be one way to start building your safety net. Whether it’s $20 a week or $200, putting a little bit away at a time can pay off when those emergencies inevitably happen.
Storing your rainy day fund
But don’t just stick a few bucks in a coffee can and call it a day. While having cash on hand can be convenient, it may be better to store your rainy day fund in a secure place. Storing money away under your mattress won’t earn you any interest either, which means your rainy day fund could actually depreciate over time.
But when it comes to saving for an emergency you want the money to be easily accessible, the last thing you want when trying to send money to your sister for an emergency plane ticket home is to have to attempt to pull money out of an inaccessible savings or investment account.
No one wants to imagine an emergency happening to them, but being financially prepared with a rainy day fund could help you weather the storm, whether it is as simple as a new pair of tires, or as serious as an unexpected layoff.
External Websites: The information and analysis provided through hyperlinks to third party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
SoFi Money is a cash management account, which is a brokerage product, offered by SoFi Securities LLC, member FINRA / SIPC . Neither SoFi nor its affiliates is a bank.
Featured Image Credit: DepositPhotos.com.