Money management experts recommend an emergency account for that unexpected expense or worse, a job loss. How much do you need? Again the experts would say 3-6 months’ worth of expenses to give you a cushion until you find another source of income. Years ago I established a fund that changed my financial situation and I have been teaching this concept since. After a personal finance workshop this is the strategy I hear about most from participants, I call it my Peace of Mind or POM account and it doubles for emergency situations and ‘rainy days’ like saving for vacation or a new couch. Here’s how it works:
- Review with your spending partner big ticket bills that can throw your budget off. Start with 3 or 4 categories such as car insurance, unexpected medical bills, car repair etc.
- Go back through 12 months of last year’s bills for those categories and determine how much you spent for the year then divide by 12 months. Do that for each category, add them together and that is the monthly amount that goes to your emergency/POM account.
- Example: in the last 12 months we have spent $900 on car repair, $300 on medical bills and $800 on car insurance. Added together that is $2000. Divide by 12 months leaving $166 that needs to be put in your emergency account per month; divided into $75 for car repair, $25 in the medical column and $66 for car insurance. See example.
- Pay yourself first; this should be the first “bill” you pay. Having it deposited right out of your paycheck helps.
- Set up a separate checking account for this fund in a bank you don’t have easy access to. Don’t attach a credit or debit card to this account, just use checks.
- Add columns to it as you need (or want) to.
- The bank will see that you have XXX amount of money but you will see it as columns with a total for each category.
Waiting to use this account until fully funded is best (after one year of deposits). Payment for those particular emergencies comes right out of this checking account and you subtract from the appropriate column leaving your day to day checking account for all your regular bills. No more crisis payments that throw your budget off! After a few months of budgeting, paying down debt and using your POM account for emergencies you should be well on your way to adding a fun column like vacation or that new couch!