Remember that old tale of Goldilocks and the three bears? She wanders into the cozy abode of three bears, helping herself to a little of everything they have, sampling bowls of porridge, chairs, and beds — too hot, too cold, too hard, too soft — until she finds the one that’s “just right.”
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What does this story have to do with personal finance? Well, when it comes to your emergency fund, you’ll want to make like Goldilocks: You don’t want your savings to be too small–leaving you vulnerable in a crisis. But you also don’t want it to be so big that your money just sits there, missing out on potential growth.
Finding that perfect balance of funds can be tricky — after all, it’s not like you can predict the price tag of a crisis in advance. Emergencies are, by nature, unpredictable.
Andrew Latham, CFP and managing editor at SuperMoney, wants you to know that there is a framework for figuring out if your emergency fund is too big or too small. And more importantly, there’s a way to get it just right.
When There’s No One-Size-Fits-All, Focus on a Baseline
Latham acknowledges that there’s no one-size-fits-all dollar amount everyone should aim for in their emergency fund — it depends entirely on your situation.
“It depends on your monthly expenses, income stability, and how long you might need to stay afloat without new income,” he said. “A good rule of thumb is to save three to six months of essential living costs. If you’re self-employed or have a volatile income, aim closer to six to 12 months.”
To determine that number, list your core monthly expenses, such as rent or mortgage payments, utilities, groceries, insurance, transportation (including car payments or transit fares), and minimum payments on debt.
That total is your bare-bones, no-frills monthly “survival number.” Multiply it by timeframes that reflect your personal risk:
- Three months: The bare minimum for most people who have steady jobs and no dependents.
- Six months: Ideal for those who are self-employed, work in a volatile industry, or have dependents.
- Nine to 12 months: Best if you’re the sole breadwinner or face ongoing medical or financial uncertainty.
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Where You Keep Your Money Matters
Once you know how much you need to save, you’ll want to decide where to put it. That “just right” choice can make a real difference in whether your money works for you, or sits idle.
“Too many people leave their entire emergency fund in checking accounts, earning little to no interest,” Latham said. “A smarter approach is to keep one month of expenses in checking for immediate access and move the rest to a high-yield savings account for better interest.”
High-yield savings accounts (HYSAs) offer significantly higher interest rates than traditional banks, meaning your money can grow even while on standby.
If you’re worried that you can’t build your emergency fund fast enough, or need a backup strategy, Latham has another tool to consider: a Roth IRA.
“You can withdraw contributions at any time without taxes or penalties,” he explained. “By investing that money in a low-cost ETF that tracks short-term U.S. Treasury bonds like VGSH or SHV, you gain liquidity, preserve value, and potentially enjoy tax-free growth if the funds remain untouched until retirement.”
This kind of layered approach with readily accessible cash plus backup funds in a Roth IRA can offer both peace of mind and potentially higher returns.
Short-Term Actions, Long-Term Security
Building a robust emergency fund doesn’t need to happen overnight. Setting up automatic transfers to your emergency fund, even in small amounts, is a simple but meaningful first step.
Set up automatic transfers — $50 or $100 every payday — into your emergency fund. Even slow progress adds up, and the consistency builds a financial habit that will ultimately lead to more peace of mind for you.
Once you’ve covered your emergency base, you can turn your attention to other savings goals: retirement, debt payoff, a vacation fund, or a down payment.
To strike that “just right” balance, consider the 50/30/20 rule:
- 50% of your income goes toward needs
- 30% toward wants
- 20% toward savings and debt repayment
Your emergency fund typically falls into that 20% bucket, along with retirement contributions and paying off loans. Keeping it all in perspective helps you avoid the trap of over-saving in one area at the expense of others or letting your cash sit when you might be better off investing it for longer-term goals.
But if you’re looking for a quick gauge of whether you have enough put away, Latham has you covered: “So, how much cash should you keep? Enough to cover a financial shock, but not so much that it sits idle. Let it be ready when you need it and growing when you don’t.”
This article is part of GOBankingRates’ Top 100 Money Experts series, where we spotlight expert answers to the biggest financial questions Americans are asking. Have a question of your own? Share it on our hub — and you’ll be entered for a chance to win $500.
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This article originally appeared on GOBankingRates.com: Want an Emergency Fund? Here’s the Stress-Free Formula Experts Swear By
