Why do we need an emergency fund?

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harikaried
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Re: Why do we need an emergency fund?

Post by harikaried » Sun Jun 18, 2017 7:40 pm

Not sure if it counts as an emergency fund, but we keep about 3 months of expenses as cash in a checking account. We also use it to cover infrequent or one-time expenses. Like insurance, it provides some peace of mind if for some reason income is low or expenses are high. It also lets us fund IRAs at the beginning of the year, and if we really needed extra cash for any "expense," we could sell with brokerage or pull from HELOC.

Durzo
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Re: Why do we need an emergency fund?

Post by Durzo » Sun Jun 18, 2017 7:56 pm

infotrader wrote:We have been told again and again that we need to have an emergency fund worth at least 3 months of income or expenses for rainy days.

I have never had an emergency fund, and all I have is money invested and money to be invested. I did not have college fund for my kids too, but sent both of them to private colleges. Don't get me wrong. I just make an average salary, and have not inherited any money.

I have a really "un-bogleheading" and stupid question: why we need an emergency fund? Or, in which case an emergency fund is used?

Why not just allocate your assets appropriately, but not designate an emergency fund? I also wonder how this "rainy day" is defined? I just cannot think of anything other than market pullback.

It reminds me of my friend who saves specifically for buying a computer, and different pots of money for different purposes. I just cannot think myself doing that.
That notion is not "unboglehead". This question comes up all the time in the forums. Each time there are a bunch of overlapping answers. Bottom line is you can split your money however you want.

Some people use and emergency fund, some use tiers, some use credit cards, some us HELOC, some use asset allocation. I personally do not have and emergency fund, it sounds like you dont have an emergency fund, and plenty of people on this board don't have an emergency fund. We don't have emergency funds because we have figured out other ways to allocate our money to meet our personal needs.

I don't know if I understand your second part of the question. You don't understand why people would use an emergency fund or what a rainy day is? You don't understand why some people might find it beneficial to have 3-12 months worth of expenses saved up for when they get laid off, have medical emergencies, have the car break down, or need a new roof? Plenty of those expenses can be predicted/insured for for but sometimes life throws you a curvefall. Some folks feel that and emergency fund is right for their personal situation.

emoore
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Re: Why do we need an emergency fund?

Post by emoore » Sun Jun 18, 2017 9:10 pm

Dottie57 wrote:An emergency fund is for emergencies when you need cash NOW. Like when you are told your dad is dying, mom is glassy eyed and he is being transferred to a physical hospice. Hospice want money NOW on Friday evening. I had money in checking and savings , so wrote a check which was cashed on Monday morning by Hospice. I needed to pay on friday night. Mom wasn't capable. Glad I had the money. No credit cards allowed.
So they needed money immediately? Sounds a little fishy to me in this day and age. Typically you would get a bill a month or so later. I never understood the reason for needing $20k in cash in a day. I would think it would be possible to spread out the costs.

KATNYC
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Re: Why do we need an emergency fund?

Post by KATNYC » Sun Jun 18, 2017 9:40 pm

To pay daily expenses in case you lose your income source. It can take 6 months or longer to find a new job.
There have been many layoffs in the past few years by lots of companies. The unemployment rate seems to be going down but I suspect that is due to people who have given up looking for work rather than everyone finding work.

Dottie57
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Re: Why do we need an emergency fund?

Post by Dottie57 » Mon Jun 19, 2017 7:04 am

emoore wrote:
Dottie57 wrote:An emergency fund is for emergencies when you need cash NOW. Like when you are told your dad is dying, mom is glassy eyed and he is being transferred to a physical hospice. Hospice want money NOW on Friday evening. I had money in checking and savings , so wrote a check which was cashed on Monday morning by Hospice. I needed to pay on friday night. Mom wasn't capable. Glad I had the money. No credit cards allowed.
So they needed money immediately? Sounds a little fishy to me in this day and age. Typically you would get a bill a month or so later. I never understood the reason for needing $20k in cash in a day. I would think it would be possible to spread out the costs.
Not fishy. I suspect there are those who would not pay if the person is in hospice is dead.. My dad was admitted on friday evening and died on Sunday.

harvestbook
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Re: Why do we need an emergency fund?

Post by harvestbook » Mon Jun 19, 2017 7:34 am

I like the psychological security of having cash--not just in the bank but in my pocket (and even buried in the yard.) To me, the goal is to protect against as many worst-case scenarios as possible. Hardly anyone starts with the most extreme scenario of a financial plan--what if the banks failed or the grid shut down and you couldn't electronically access money or get "your" money? Yes, extremely unlikely, but the odds aren't zero.

True, in such a panic, cash would soon be worthless, but there would be a critical window where it would still function for the most part. I'm no doomsday prepper, but I don't see how anyone would want to be blind to this possibility if they consider themselves financially responsible, especially as money becomes more dependent on complex technological systems. After you get past that, the thousands of unlucky things that can happen that are out of your control can be huge risks that few plan for. What if Vanguard had an institutional crisis, was hacked, or suffered some other catastrophic failure? (We don't plan for them because they're too painful to think about, so instead we just assume it won't happen.) As they say, "Hope isn't a plan."

That said, I like a cash cushion in the bank for a number of more normal reasons--if the market crashes 20 percent, I can buy some stocks. I am not at risk of job loss, since I'm self-employed and my job doesn't depend on health as long as my brain works, but again hard times can arise unexpectedly due to factors beyond my control (largely technological and structural, aside from the possible erosion of my chosen field). I am getting to the age where I don't want to tap my retirement funds in a crisis. And spending mostly out-of-pocket with cash for daily uses keeps me tuned into my spending habits.

Given the relatively low inflation, I don't feel like I'm losing out by having cash. I also keep a very stock-heavy investment AA so that's another reason I like cash, because I prefer it to tying up money to get a couple percent in bond returns. If I consider my cash as fixed-income (even though it's not really generating income), then I am probably closer to what most people would consider a "safe AA."

Whether you're cash-heavy or not, you're really just playing the odds, but it's probably the unforeseen stuff that will get us anyway! There are many roads to Dublin and some of them don't get there.
I'm not smart enough to know, and I can't afford to guess.

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DaftInvestor
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Re: Why do we need an emergency fund?

Post by DaftInvestor » Mon Jun 19, 2017 8:38 am

harikaried wrote:Not sure if it counts as an emergency fund, but we keep about 3 months of expenses as cash in a checking account. We also use it to cover infrequent or one-time expenses. Like insurance, it provides some peace of mind if for some reason income is low or expenses are high. It also lets us fund IRAs at the beginning of the year, and if we really needed extra cash for any "expense," we could sell with brokerage or pull from HELOC.
For me, I don't want to be forced to sell from brokerage at the bottom of the market - nor can I (or anyone) rely on their HELOC being open during a serious market downturn or housing crisis (many HELOCs were pulled during the last one).

OP: I have an emergency fund so that if I'm laid off I can afford to keep paying for my house and feeding my family for a period of time without having to cash out anything during a market slump. For me - the chance of getting laid-off is highly correlated with times when the market is down and HELOCs are at risk of being closed. Your need for an emergency fund is dependent upon your financial responsibilities and job security. I keep some funds in a high-yield savings account and have a second tier in ibonds.

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tadamsmar
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Re: Why do we need an emergency fund?

Post by tadamsmar » Mon Jun 19, 2017 9:08 am

I have:

1. A $15,000 equity line of credit
2. Another $15,000 equity line of credit
3. A couple of credit cards that normally have a limit exceeding $15000, this can provide a free loan for 3 weeks or so if I can make an emergency purchase instead of a cash withdrawal.
4. A large Vanguard taxable account that I can draw from if need be, take about 3 days to get the funds in my checking account.
5. 40% or so of my AA is in bonds.

I am retired, don't see any need for life insurance.

Is there an argument for me having an emergency fund?

The argument about a market downturn seems like a bucket fallacy combined with stealth market timing. I'd view an emergency fund as part of my AA bond allocation, not a separate bucket. I could just as well sell down some of my bonds in an emergency during a stock downturn. Either way I am adjusting my AA more toward stocks as a timing reaction to a downturn. (I don't consider timing to always be bad, I am just pointing out that some on posters are calling a spade a diamond, a spade is a spade.)

I'd use my taxable account to cover consumption, I'd use it if I had to go into temporary debt for a few days.

I can see some value in having one to lessen the probability of a taxable event, but there is some opportunity costs to it. But I guess the "insurance rate" is only a few percent of the emergency fund per year.

delamer
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Re: Why do we need an emergency fund?

Post by delamer » Mon Jun 19, 2017 10:42 am

tadamsmar wrote:I have:

1. A $15,000 equity line of credit
2. Another $15,000 equity line of credit
3. A couple of credit cards that normally have a limit exceeding $15000, this can provide a free loan for 3 weeks or so if I can make an emergency purchase instead of a cash withdrawal.
4. A large Vanguard taxable account that I can draw from if need be, take about 3 days to get the funds in my checking account.
5. 40% or so of my AA is in bonds.

I am retired, don't see any need for life insurance.

Is there an argument for me having an emergency fund?

The argument about a market downturn seems like a bucket fallacy combined with stealth market timing. I'd view an emergency fund as part of my AA bond allocation, not a separate bucket. I could just as well sell down some of my bonds in an emergency during a stock downturn. Either way I am adjusting my AA more toward stocks as a timing reaction to a downturn. (I don't consider timing to always be bad, I am just pointing out that some on posters are calling a spade a diamond, a spade is a spade.)

I'd use my taxable account to cover consumption, I'd use it if I had to go into temporary debt for a few days.

I can see some value in having one to lessen the probability of a taxable event, but there is some opportunity costs to it. But I guess the "insurance rate" is only a few percent of the emergency fund per year.
People who don't have earned income -- that is, retirees -- don't need an emergency fund, if you use the definition that an emergency fund is intended to replace income if you are unable to work.

infotrader
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Re: Why do we need an emergency fund?

Post by infotrader » Mon Jun 19, 2017 10:44 am

Thanks for all the posts above, and I do learn a lot from them.

The reason for me to start this thread is that I have heard so much about EF, and almost to the point that: EF is the starting point of your personal finance. People will commend you for having one, since it is the right thing to do. I understand that. For millions of people with credit card debt, EF is another cornerstone, since you have tangible evidence to show that you are in no credit card debt and PLUS more status.

Although it is true to some point that EF is the starting point of investment (i.e. you need money to start your portfolio), EF will be effectively integrated into your portfolio if you do your AA correctly. Everyone has his ways to deal with unexpected needs, I use credit cards whenever I can, even for the smallest amount, but never have credit card debt. Like the last post above, I always have money for market meltdown, but I don't consider it my EF.

From the discussions on the topic, in a way, EF is more like a mental status: some people use the term for the peace of mind, and I completely understand the necessity of having one in case of loss of income. For me, it is just my cash reserve, which can be used for any purpose, such as to buy a car if I can get better deal than financing, which is, by no means, an "emergency".

delamer
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Re: Why do we need an emergency fund?

Post by delamer » Mon Jun 19, 2017 10:53 am

infotrader wrote:Thanks for all the posts above, and I do learn a lot from them.

The reason for me to start this thread is that I have heard so much about EF, and almost to the point that: EF is the starting point of your personal finance. People will commend you for having one, since it is the right thing to do. I understand that. For millions of people with credit card debt, EF is another cornerstone, since you have tangible evidence to show that you are in no credit card debt and PLUS more status.

Although it is true to some point that EF is the starting point of investment (i.e. you need money to start your portfolio), EF will be effectively integrated into your portfolio if you do your AA correctly. Everyone has his ways to deal with unexpected needs, I use credit cards whenever I can, even for the smallest amount, but never have credit card debt. Like the last post above, I always have money for market meltdown, but I don't consider it my EF.

From the discussions on the topic, in a way, EF is more like a mental status: some people use the term for the peace of mind, and I completely understand the necessity of having one in case of loss of income. For me, it is just my cash reserve, which can be used for any purpose, such as to buy a car if I can get better deal than financing, which is, by no means, an "emergency".
Some of this is definitional and mental accounting, agreed. But it is worth considering that if a cash reserve is spent down to fix the roof on Thursday, that same cash reserve cannot be used to pay the mortgage if you lose your job on Friday.

runner540
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Re: Why do we need an emergency fund?

Post by runner540 » Mon Jun 19, 2017 11:01 am

There have been a lot of these threads recently, and I think it's a symptom of a long bull market and short memories from 2008. "fear of missing out"

What does "liquid" mean to you? Right now, every asset class including real estate seems pretty liquid but that's recency bias talking.

To me, it means having a certain amount in physical currency at my house, so I am not relying on a bank being open or an ATM being stocked with bills (in case of power down, cyber attack that takes out phone/payment systems, I can still buy gas and food). The next tier is "high yield" (1%) FDIC insured accounts at a couple of different institutions (again, if one has issues, I like to have a back up and it doesn't cost me anything to do this).

I don't want to depend on a credit line, but that's me. I sleep well!!

If you consider a credit card as EF, how will you pay the cc bill the next month in full to avoid 20-30% interest?

KlangFool
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Re: Why do we need an emergency fund?

Post by KlangFool » Mon Jun 19, 2017 11:29 am

infotrader wrote:
From the discussions on the topic, in a way, EF is more like a mental status: some people use the term for the peace of mind, and I completely understand the necessity of having one in case of loss of income. For me, it is just my cash reserve, which can be used for any purpose, such as to buy a car if I can get better deal than financing, which is, by no means, an "emergency".
infotrader,

I disagreed. In my opinion, EF is for any unplanned financial needs. It is for the financial emergency.

<< For me, it is just my cash reserve, which can be used for any purpose, such as to buy a car if I can get better deal than financing, which is, by no means, an "emergency">>

In this case, it is an unplanned financial need. Hence, it is a financial emergency. So, your cash reserve is your EF.

KlangFool

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tadamsmar
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Re: Why do we need an emergency fund?

Post by tadamsmar » Mon Jun 19, 2017 11:47 am

You need an emergency plan, not necessarily an emergency fund.

delamer wrote: People who don't have earned income -- that is, retirees -- don't need an emergency fund, if you use the definition that an emergency fund is intended to replace income if you are unable to work.
Seems that might extend to people who are in a position to rationally save for retirement in a taxable account.

If you keeping your emergency fund in your AA, then it might make sense to not use the Total Bond fund for all your bonds. Might be better to use a mix of bond funds with some being shorter-term government bonds. You could draw on the safer bond funds during a financial crisis if need be. You overall bond allocation could be Total-Bond-like, but you could draw on the safe end if need be. (Yes, drawing down only your safe bonds during a financial crisis would be market timing.)

zuzimb
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Re: Why do we need an emergency fund?

Post by zuzimb » Mon Jun 19, 2017 12:34 pm

Like others have said an emergency fund can be/is a building block. That's how I view mine anyways. I don't have enough assets to cover an emergency in a 10% downturn, let alone a 50% downturn. Additionally my Roth is less the 5 years old so I can't withdraw contributions from it. I do not have a house so I don't have access to a HELOC and I have zero credit so once I get a credit card my limits will be negligible.

I was recently rethinking if I needed so much money in an EF, was thinking of putting some in the market. Luckily I didn't because a few weeks later my car transmission went out. Without solid credit history I was looking at interest rates of 7%+ (if I got lucky). The only financially responsible solution (IMO) was to pay cash for a car. I used all of my dedicated "emergency fund" and a chunk of my slush fund to cover the costs of the car. Of course I could have gone with a cheaper less reliable car but wouldn't have gotten the same value IMO. The fund was also used when I got flat tires in college/recently.

In the future I fully expect to integrate the majority of my emergency fund into my taxable account AA. But for now what's left of it sits idle in a high-yield savings account out of necessity.

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whodidntante
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Re: Why do we need an emergency fund?

Post by whodidntante » Mon Jun 19, 2017 12:36 pm

The advice to keep an emergency fund doesn't apply to you. Really. It doesn't apply to you.

It's good advice for people without enough liquid assets to ride through emergencies in a down market, or those who prefer a more conservative allocation with a large cash position. Some people would rather keep a year's salary in cash for their whole life because they can't bear the thought of someday needing to sell into a down market. And that's fine for them, but it doesn't describe you.

infotrader
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Re: Why do we need an emergency fund?

Post by infotrader » Mon Jun 19, 2017 2:52 pm

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infotrader
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Re: Why do we need an emergency fund?

Post by infotrader » Mon Jun 19, 2017 2:52 pm

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infotrader
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Re: Why do we need an emergency fund?

Post by infotrader » Mon Jun 19, 2017 2:52 pm

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infotrader
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Re: Why do we need an emergency fund?

Post by infotrader » Mon Jun 19, 2017 2:53 pm

KlangFool wrote:
In this case, it is an unplanned financial need. Hence, it is a financial emergency. So, your cash reserve is your EF.
So, it goes back to how we define it mentally: more or less, everyone is supposed to have one, no matter what you call it.

KlangFool
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Re: Why do we need an emergency fund?

Post by KlangFool » Mon Jun 19, 2017 3:09 pm

OP,

It is very simple.

Life happened! There will be the unplanned expenditure. So, a person needs money to handle those situations. The money to do those things are the emergency fund. And, in some cases, it may not be a bad situation. For example, some stuff is on sales now. But, you need cash to pay for it.

KlangFool

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