How much in emergency savings?
Question: How many months of living expenses should I have in my emergency savings account, in our current economic situation? I have always heard "six months," but I suspect that applies to a "normal" economy, in which I could probably find a new job within six months. Thanks, Sheila, Belmont, CA
Answer: The size of the suggested emergency savings pot has evolved in recent years. For a long time, the rule of thumb was to set aside 3 to 6 months of easily accessible savings. That number now is 6 months to 1 year.
The reason for the increase is that the risk of a long spell of unemployment had gone up even before the recession and the odds had also gone up that the new job would pay less than the old one. Both of these risks are worse with a recession that shows no sign of ending anytime soon.
Of course, 6 months is a starting point. For many people, setting aside enough to cover living expenses from 3 months to 1 year is a goal, not a current reality. My attitude is that there's no real penalty for financial prudence. And, if it turns out that you end up saving more than is necessary, you can always re-label your "emergency fund" into your "opportunity fund." The lesson of past recessions--this one will be no different--is that anyone with savings will have ample opportunities to snap up bargains. Prudence pays off big in a downturn.