One critical component of a Financial Plan is to have an “Emergency Fund“. This should be one of the highest priority items to address, and conventional wisdom is to have “at least” 3 months of expenses, but preferably 6 months or more. Like other parts of retirement saving, this can be a daunting, seemingly impossible task.
Just like starting to save for retirement, it feels overwhelming to try to build an emergency fund. We’ve used some “creative” classifications for our emergency fund, such as our Roth IRA balances. Experts would not recommend tapping your Roth IRA, but that’s why it’s called an “emergency“. 🙂 Roth IRAs allow withdrawals of “contributions” at any time with no tax or penalty, as long as they have “aged” for 5 years. This flexibility is one of the reasons that we have continued to fund our Roth IRAs through the back door, once we did not qualify to contribute due to income limitations.
Because we allocate so much of our budget to funding retirement, historically we have not had a lot of cash on hand. Earlier in our careers, we also allocated more of our income to accelerating our mortgage debt, but with the extremely low rates since the Great Recession, the calculus has changed and the savings in interest are not as compelling. As we have progressed in our careers, we have been able to build more savings in “cash” or liquid accounts, so we can “remove” our Roth IRAs from our Emergency Fund at this point.
We have been fortunate and have not (*knock on wood*) had too many big ticket expenses. Our son has had a lot of health problems, but insurance was a godsend and probably covered almost 7 figures in medical bills! However, we purchased our house in 2002 as a new construction, so we’re starting to run into more needed repairs and replacements.
Just in the last few weeks we’ve discovered that we need to replace one of our central AC units, and also need to replace the insulation in the attic. We also had some roof and gutter repairs. We have been dreaming of a home renovation, and definitely did not want to allocate funds to repairs for mundane things like this! We may be able to get an interest free loan on the AC installation, which we will probably do to spread out the hit. We pay off our credit card balances quickly and usually prepay for services in full to get a discount, but if there is no interest on the AC loan, we will take advantage. We can absorb these expenses, but may need to trim our savings for awhile to rebuild some of the cash funds.
Now that we have reached this point with a healthy retirement balance and emergency fund of at least 6 months of expenses, it doesn’t seem so bad. 🙂 Luck has definitely played a role in our success so far, we’ve stayed employed and been mostly healthy. The other big factor has been preparation and execution. We had to come up with a plan for savings, but also follow-through. Sometimes, the early steps are the hardest, especially when results don’t happen overnight.
Unless your income is limitless, it also requires some patience and a willingness for “delayed gratification“. Now we can afford nicer cars and vacations, but in years past we kept driving our older cars and skipped vacations. We don’t limit expenses as much as some folks trying to achieve FIRE, we try to reach a happy medium that means we will have to work a little longer.
The endgame is proving itself out as the theories of compound interest and habitual savings are paying off, just like my mother said it would back when I was a teenager. Really it comes down to saving as much as you can as soon as you can for as long as you can. The theory is simple, but we’ve found it’s a dynamic process that evolves over time because our goals shift. With the markets currently at all time highs (mid April 2021), we continue our transition to focus on income and capital preservation.
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|Disclaimer: I am not a financial planner and content on this site is meant to provide food for thought, not professional advice. I share my experiences to show what worked so far and what didn’t, YMMV. Please consult your financial advisor or tax professional as needed.|
A good advise on how to build your retirement fund, how to control your expenses, what are the contributions from the IRA and how to protect yourself from penalty. Understanding your income limitations can go a long way in building a solid emergency fund plan.