Just when you seem to be reaching a point of financial stability, something happens. Your car is involved in a fender-bender, your child needs expensive braces, you drop your smartphone in the toilet… those are just a few of your annoying unexpected expenses.
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What’s the best way to combat this problem? Expect the unexpected and plan for it.
You don’t know exactly what unpredicted expenditures you will incur (after all, if you did they wouldn’t be unexpected). However, you can be pretty sure that some kind of unexpected cost will pop up during the year.
A 2014 survey conducted by American Express showed that 46% of survey respondents experienced unexpected car-related expenses, 44% incurred unexpected healthcare costs, and approximately one-third were hit with household repairs. In total, almost half of the respondents were hit with unforeseen expenses.
Meanwhile, another survey determined that almost 40% of Americans don’t have the money in their bank account to cover these unanticipated outlays. A different survey from The Employee Benefit Research Institute (EBRI) shows that bank accounts and investments totaled less than $1,000 for 36% of Americans. These days, one good repair bill could wipe out that $1,000 – not to mention a medical bill.
It’s important to set money aside for these types of intermediate-sized expenses, as well as maintaining a larger fund for true emergencies such as job loss. How do you go about this?
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Review Past Expenses – Take a look over your expenditures from the last few years. By sifting through credit card receipts and canceled checks, you should get a good idea of your typical unexpected payments. The numbers will probably shock you, even if you are liberal with the definition of “unexpected.”
If you do not have the records available for review, make your best estimate of how much you think you spent last year on unplanned expenses – and then triple it.
Make/Review Your Budget – Update or make your budget for the upcoming year and review it, assuming that you need to make room for an emergency fund and a separate fund for sudden expenses (if you don’t have either one).
Generally, a true emergency fund should account for about three to nine months of living costs without income, while a fund for unexpected expenses should ideally have several thousand dollars. Use the amount of your collective insurance deductibles as a reference point, and save above that mark if you can.
Did you come up with impractical budget numbers? Reset them to reflect something achievable with the intent to increase savings at a later date. It’s better to save a scant amount than to give up and save nothing at all.
Alter Spending to Match – Look for areas in your budget that can be trimmed and diverted to emergency funds. Even something as simple as eating out two fewer times a month can save $25-$100 or more, depending on how many mouths you have to feed (and where you like to eat).
Separate Funds – Emergency and repair funds are best kept in a separate account if possible. In theory, this does not matter, but in practice, it has a useful psychological effect in keeping saving up and expenses down.
If you have no funds set aside for unexpected payments, start putting them aside today. Eventually, it will just become another monthly “expense” to you – and the next time you drop your smartphone in the toilet you will be very happy that you held out money for such a mishap.
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