The Real Purpose of an E-Fund

When I teach my personal finance or investment classes, stories are the medium to drive the lesson into those hard-headed students of mine. I’ll make up names to protect the innocent and share as many personal stories as possible to bring the reality of a given situation into focus. So today, you are getting a personal story. As most of you know, financial advisors are always touting the necessity of a savings account solely for emergencies. I call this an “e-fund.” Generally speaking, if one is an employee, his e-fund is recommended to be three to six months of expenses. In the case of a self-employed individual, six to twelve months of income is recommended to safely avert financial disaster. In my experience of my clients and myself, I didn’t ever have a dramatic example of how important the e-fund really is …until last fall. In September last year, I was in a terrific car accident. We were fully insured as was the person who hit me. However, it became clear very early on that this was a financial disaster for my husband and me. Injuries aside, we needed a new car. To cut to the chase, my 10-year old Cadillac, in excellent condition and with brand, spanking new tires, keys, & tune-up, was worth a whopping $7,000. That was it! $7,000! Having a car payment was not our modus operandi, and to add insult to injury, my husband had his heart set on another Cadillac. Neither of us saw this one coming. We were heart-broken. My class quickly learned that being “fully insured” still meant I’d be responsible to buy a new car—many of them believed, admittedly naive, that insurance would take care of it. But it didn’t! Just when they all thought their professor was going to pass around a hat to buy a new car, I sprung the fact that we had an e-fund. Thankfully, it was substantial enough to buy the new car, but would deplete it significantly. One suggestion was pretend to have a car payment to build it back up, which makes great sense (they’re learning). The point was made: without those savings, we could have been in a world of hurt having to get a car loan at significantly higher interest rates than a few years ago. Or worse yet, having to get a car my husband really didn’t want (all married folks will understand that statement ;). So, lesson learned. My students are now thinking much more broadly about the uses of an e-fund. I hope you do too. It can be the difference between starting smart or not at all. Happy saving! © 2010 Start Smart Advisor™