There are many different building blocks you need to establish a foundation for financial security. One of the most important is an emergency fund. An emergency fund ensures you're prepared for unexpected expenses so you don't find yourself in debt -- or worse -- because of a lack of money when you need it. 

While most people have heard they need an emergency fund, the majority of Americans don't actually have one. If you're lacking an emergency fund, you've come to the right place. Read on to find out everything you need to know about creating an emergency fund to serve as a safety net and give you peace of mind. 

Young man with money flying out of his wallet

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What is an emergency fund?

An emergency fund is money you've set aside that you can quickly access to cover an unexpected problem. It's money earmarked for expenses that come up that you must pay. 

It exists separately from retirement savings and from a savings account that you may have for a specific purpose, such as a vacation fund or a down-payment fund. When you create an emergency fund, the hope is that you'll never need the money -- but it will be there for you when you inevitably do.

Why do you need an emergency fund?

It's important to have an emergency fund because unexpected expenses happen to everyone. While a Bankrate survey revealed that a third of American households experienced unexpected expenses during the year -- with average costs above $2,500 per expense -- Pew Charitable Trusts found 60% of households faced a surprise expense, with a median cost of $2,000. Pew's survey found that as many as a third of households actually experienced two major financial shocks during the year. 

Many different kinds of unexpected financial disasters can hit your household including:

  • Loss of a job
  • Surprise medical or dental expenses
  • Home or vehicle repairs
  • Unexpected travel expenses, such as a trip to a family funeral

You need money you can access quickly to deal with these life events. Money in an emergency fund should be sitting in your bank account ready for you to withdraw, so when an unexpected expense arises, you don't have trouble covering it.

What are the benefits of having an emergency fund?

While saving for an emergency fund may not seem fun, having one can pay off in big ways. When you have money saved for emergencies:

  • You won't have to go into debt when an emergency happens. Around a third of Americans said they would need to borrow to fund a $1,000 emergency, which would mean paying interest. 
  • You'll have money to pay medical or dental bills if you unexpectedly get sick. This means you won't ever have to put off care for financial reasons. Sadly, almost a quarter of men and more than half of women in the U.S. report delaying care due to cost concerns. 
  • You'll be able to keep paying the bills if you become unemployed. In 2017, the average duration of unemployment was 25 weeks. An emergency fund can supplement unemployment benefits to sustain you until you can find a new job -- and you can take your time to look for the right job rather than jumping on the first opportunity even if that means a demotion or pay cut.
  • You can make necessary repairs if something goes wrong with your home or car. Delayed repairs can cost you money, such as living with a leaky faucet that raises your water bill. 

Having an emergency fund also gives you peace of mind. You won't have to lie awake worrying what happens if you lose your job, because you'll know you have money to cover your living expenses for a long while. 

What are the disadvantages of having an emergency fund?

The pros of having an emergency fund absolutely outweigh the cons, but there are a few disadvantages to be aware of:

  • Saving for an emergency fund takes money away from other financial goals. Every dollar you divert to your emergency fund is $1 you can't use for retirement savings or paying down debt. 
  • There's an opportunity cost to leaving money in savings. Money in an emergency fund needs to be in a place you can quickly access, and it needs to be kept somewhere safe. You don't want it invested in stocks, bonds, or certificates of deposit. Because your emergency fund shouldn't be invested, you forgo the opportunity to put your money to work earning a good return for you. 

While these are downsides, financial experts agree that it is worth the trade-off to have money available to pay the surprise expenses everyone eventually faces.

What can happen if you don't have an emergency fund?

Without an emergency fund, you have no safety net and likely no way to quickly access money when there's an expense you absolutely must pay. Responding to an unexpected expense without the cash to cover it can throw off your financial equilibrium for months to come. 

More than half of all households experiencing expensive financial shocks struggled to make ends meet after being faced with their surprise expense, according to Pew Charitable Trusts. Even more concerning was that close to half of the families facing a financial shock still had not recovered at least six months after the financial emergency. 

Households with financial shocks were also found to have higher credit card debt, more likely to carry monthly balances on credit cards, and had almost $4,000 less in liquid savings. 

And ending up in debt can be a best-case scenario. If you don't have an emergency fund and can't afford to get medical care when a surprise illness arises, your health could deteriorate. If you can't pay your mortgage and utility bills because you've been let go from your job and have no emergency fund, you could face foreclosure, which can ruin your finances and credit for decades. 

Not being able to pay for an emergency can also cause personal and relationship stress. Money fights are a leading cause of relationship strife, which should come as no surprise -- arguing over how to pay for an unexpected expense you can't afford is definitely not the way to keep romance alive. 

How much money should be in your emergency fund?

It should be clear by now that you need an emergency fund -- but you're probably wondering how big your emergency fund needs to be. There's no one right answer to the question of how much you should save for an emergency, but there are some guidelines you can use.

Most financial experts recommend setting aside around three to six months of living expenses, which should be enough to cover you for all but the most dire of emergencies. However, this is a wide range, and some people may need to adjust to account for their particular circumstances. For example:

  • If you're the sole breadwinner for your family, you'll want a bigger emergency fund because the loss of your job would mean the loss of all household income. Single parents with several children, for example, might want an emergency fund with a full year of living expenses because there's no one to pick up the slack if they are laid off. 
  • If you have an unstable job, have a larger emergency fund. When the chances of losing your job are higher, you want to be as prepared as possible. 
  • If you or your family have serious health issues, aim for a larger emergency fund. This is especially true if you could incur lots of expenses not likely to be covered by your health insurance. 

While you should err on the side of caution and save a reasonable amount of money to cover emergencies, you don't want to get too extreme either. Remember, the money you're saving for an emergency is money you can't use for other purposes -- like investing in assets that produce a higher rate of return. Having five years of living expenses saved for an emergency would be unnecessary and tie up too much of your money.

How can you set aside money for your emergency fund?

Saving three to six months of living expenses may sound insurmountable, but you can start small and build up your emergency fund with steady contributions. When you experience financial windfalls, you can also devote those funds to your emergency fund. 

To save your emergency fund:

  • Set a monthly savings goal. Decide how much you want to save each month. If your goal is to build up a $10,000 emergency fund in one year, you'd need to save around $833 per month. Set that as your goal. 
  • Make a budget. Creating a budget allows you to ensure your income is being spent appropriately, with some of the funds being allocated toward your financial goals like building your emergency fund. Treat your emergency fund savings as a bill you must pay when you make your budget, just like a mortgage or rent.
  • Cut spending. When you're making your budget, you'll likely find things you're overspending on. There are many ways you can reduce those expenditures. For example, you can reduce spending by meal planning to avoid food waste, using coupons to buy food, looking for free sources of entertainment, canceling cable, or downgrading your cellphone plan. As soon as you cut spending, divert the money right to savings. If you drop your cable, set up an automated transfer once a month to send the $100 you're saving directly to your emergency fund.
  • Save your windfalls. When you get a tax refund, some birthday cash, a bonus at work, a raise, or any unexpected money, immediately move the cash to your emergency fund. 
  • Consider a side hustle. Around 44 million Americans have a side hustle, according to a Bankrate survey, and more than a third of them make more than $500 monthly from their side gig. You could build your emergency fund quickly by working a side job for a limited period of time.
  • Sell unused items. Anything of value you no longer use could be listed on eBay or Craigslist, and the money can be used to help you save your emergency fund. 

It will be much easier to save money for your emergency fund if you automate monthly contributions to it. Start by setting up an automatic transfer on payday to your emergency fund account before you ever see the money. Then, each time you can save some cash or come into extra money during the month, sign into your online banking service and transfer the money into the emergency fund. 

What if you can't save 3 to 6 months of living expenses?

Saving three to six months of living expenses is recommended, but if expenses are tight, it may be really hard to do that, and it could take years. If you find yourself in this situation, don't get discouraged and give up on the idea of an emergency fund. Instead, make a commitment to start small and at least save something for emergencies. 

A $1,000 emergency fund will be enough to cover many unexpected financial surprises that come up. You can save $1,000 over the course of a year by putting aside just $38.50 per pay period if you're paid biweekly. The average cost of a meal out is around $12.75 per person, so skip three days a month of dining out for lunch while at work, or one dinner out for a family of four, and you'd have enough. 

Over time, continue making contributions to your emergency fund -- as much as you can afford -- and eventually you'll reach that goal of having three to six months of living expenses saved up. 

Where should you keep your emergency fund?

Your emergency fund needs to be somewhere very safe where you can quickly access the money. This fund is your safety net -- it's not to make you money. That means you don't want to get fancy with it or put it at risk. 

Your emergency fund should be in an FDIC-insured high-yield savings account. You can find our picks for the best high-yield savings accounts here.

The money for your emergency fund should be separate from your regular checking account so you aren't tempted to spend it and don't think you have more spare cash than you actually do. It should be separate from any other savings accounts for other purposes, such as a travel fund or a home repair fund. 

Is it ever OK to invest your emergency fund money?

When you take a look at high-yield savings accounts, you may be frustrated to find the interest you'll be paid for your savings is well below 2%. You may be tempted to invest your emergency funds to try to earn a better rate of return, but it's best to not do it. 

You should never invest your emergency fund money in anything other than a savings account, because then it's no longer an emergency fund. You don't want the money to be inaccessible when you need it, and you don't want to be forced to sell assets at a loss because an unexpected emergency strikes.

Should you save for your emergency fund or pay down debt?

An emergency fund is intended to help you stay out of debt, but what if you're already in debt?

Deciding whether to save up an emergency fund or focus aggressively on paying down debt is difficult. Your lender likely charges a much higher interest rate than you'll earn on your emergency fund, so it may seem silly to have money sitting in the bank while you pay interest. 

However, in almost every case, it makes sense to save for an emergency fund before beginning an aggressive plan to pay down debt. This never means skipping minimum payments -- you always need to pay the minimums. But, unless you have very high interest consumer debt, like payday loans or a credit card with a penalty interest rate, it makes sense to save for an emergency first. 

While the math may point you in the other direction, the problem comes when that inevitable emergency strikes. If you've been sending all your extra cash to your credit card and your transmission breaks or you lose your job, you may find yourself charging another $2,000 on a credit card that you just paid off.

This can make you so discouraged that you stop taking steps to improve your finances. You could also become trapped in the never-ending cycle of paying down debt and then ratcheting it back up when an unexpected expense arises.

How should you tackle debt while saving for an emergency fund?

Instead of trying to put extra money toward debt, build up your emergency fund first -- and see if there are ways to reduce your interest rate while you're doing so.

You may be able transfer your credit card balance to lower your interest rate to 0% for a promotional period of a year or longer, or you may be able to take a personal loan to consolidate your debt at a lower rate. Then, make minimum payments on your debt while you focus on building at least a starter emergency fund of several thousand dollars. 

Once you have a few thousand dollars in the bank for emergencies, you can divide your extra cash between debt repayment and building up the rest of your emergency fund. Or, you can can shift your focus to debt repayment until you get that taken care of and then aggressively build your emergency fund up to the three to six months' living expenses goal once the high-interest debt is gone.

You'll have to decide which approach is best, given the interest rate on your debt and how much risk you face of experiencing a really big emergency.

Is it better to save for your emergency fund or save for retirement? 

Retirement savings and saving for an emergency are both very important financial priorities. 

You absolutely need to start saving for retirement as soon as possible if you don't want to be broke as a senior, and it's much harder to save enough if you start saving late because you spent years working on building an emergency fund. Plus, if you forgo retirement savings, you'll miss out on tax breaks that are designed to help you save for your future. 

If you have a 401(k) at work and your employer matches your contributions, you typically should contribute as much as you need to earn the maximum match. There's no reason to miss out on free money. However, if your job is unstable, you have serious health issues, or you're at elevated risk for an emergency for some other reason, prioritizing your emergency fund might make sense. 

If your employer doesn't offer a match, then it's a judgement call whether to devote all your spare cash to saving for an emergency fund or allocate some of your money to retirement savings, too.

You could focus on building an emergency fund until you've built up around $1,000 to $2,000, and then start dividing extra cash between retirement savings and an emergency fund. Or you could work on both goals simultaneously from the start. It depends on how much risk you face and how close you are to retirement. 

When is it OK to spend your emergency fund?

Once you have an emergency fund, it's important you spend it only on emergencies. That means unexpected expenses you cannot plan for. Events like holidays and birthdays, your annual car inspection, and routine health checkups aren't emergencies -- they're things you should budget for throughout the year. 

Ideally, as you get your financial life under control, you'll be able to budget for more and more recurring expenses. You can start a car repair fund, a home repair fund, and a health savings account. But while you're still building your financial foundation, it's vital you leave your emergency fund alone unless you have an expense that must be paid now because your health, home, job, or future financial security is at risk.

Your emergency fund is key to your financial security

Now that you know everything there is to know about emergency funds, you're ready to start saving for yours. Once you have three to six months of living expenses set aside in an account you can quickly access, you'll realize the peace of mind of knowing you have a sturdy safety net to catch you in the event of an unexpected expense, and you won't risk falling into financial hardship. You'll be so glad you made the effort to save. 

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