The Size of Your Emergency Fund Should Be In Inverse Proportion to the Stability of Your Income


cash, cash savings, emergency fund, jobs, job loss, job security, incomeThe following is a post by MPFJ staff writer, Kevin Mercadante, who is professional personal finance blogger, and the owner of his own personal finance blog, He has backgrounds in both accounting and the mortgage industry.

There are all kinds of methods that are used to determine what the proper size of an emergency fund should be.

Perhaps in an attempt to simplify the process, the most common recommendations are for either a flat amount – say $1,000 – or a certain number of months living expenses, which typically ranges anywhere from one to six months.

In reality however, determining the right size for your emergency fund may not be all that simple. A flat amount or so many months living expenses will work only in the most general sense. Your method also needs to account for the variables of life. And one of the biggest variables is the stability of your income.

It isn’t possible to have the right-sized emergency fund unless you adequately adjust for qualitative factors, one of which is income stability. How should income stability affect the size of your emergency fund?

Types of income that should affect the size of your emergency fund

Evaluating the stability of income is mostly a matter of considering the source. A salaried position with full employee benefits would represent the most stable source of income. This will be especially true if the job is in a professional position, such as nursing, accounting or teaching. Government jobs tend to be even more stable, since layoffs from such positions are infrequent.

At the opposite end of the spectrum, are employment situations in which all – or at least a substantial amount – of your income is derived from non-salaried sources. Some examples might include:

  • Self-employment
  • Commission sales jobs (100%)
  • Salaried jobs in which a substantial amount of compensation is derived from bonuses, commissions, or overtime
  • Contract employment
  • Hourly positions with variable schedules (includes most part-time positions)
  • Seasonal jobs

Another type of employment with unstable income includes jobs with a high frequency of layoffs. An example of this would be many positions in the building trades. Since the construction industry in general tends to run with the boom and bust cycles of the real estate business, building tradesmen qualify as having less stable income sources.

Now that we’ve set some definitions for what constitutes income stability, and which income types they apply to, let’s get back to the question of how much to have in an emergency fund.

Greater income stability requires a smaller emergency fund

If you are on the high end of income stability – let’s say that you have a full-time, fully benefited job with the government, and you even have some tenure. If that is your situation, then you can be on the lower end of the emergency fund scale. Given that financial planners usually advise having something like 3 to 6 months of living expenses in your emergency fund, the stability of your income would allow you to keep your fund at the lower end of the range. You would likely be perfectly safe with just three months reserves, and you may even be able get away with a little bit less. For most people, the biggest emergency situation is the loss of a job or the potential for a serious reduction in earnings. But if your job and income situations are extremely stable, then that potential emergency will not be a reasonably likely scenario, and your emergency fund doesn‘t need to be as large.

Less income stability requires a larger emergency fund

It’s easy enough to see how a very stable income situation would require a smaller emergency fund. But the situation gets a bit more complicated when you’re talking about less stable income sources, such as the ones listed earlier.

If you are in a situation that is generally unstable income-wise – or at least has the reasonable potential to be so – you will want to be at the higher end of emergency fund recommendations, at the very least. In just about any of these income situations you should have at least six months of living expenses in your emergency fund.

If you’re income situation is at the high end of unstable – such as self-employment or 100% commission – you may want to increase your fund to cover as much is 12 months of living expenses. The larger emergency fund is necessary not only to compensate for potential loss of income, but just as important, to give you some peace of mind during periods of wide income fluctuation. If you have enough money saved to cover your living expenses for a year, you should be able to keep calm and to do whatever is necessary to turn your income situation around.

Still another benefit of the larger fund – from my own personal experience – is the tendency for other emergencies to develop when you’re dealing with an income crisis. Blindside disasters just seem to be more frequent when income is low. There’s nothing really scientific about how much money to have in your emergency fund. And there are different ways to calculate how much you’ll need. But whatever method you take, you should seriously consider your income stability as a major part of the criteria.

How about you all? What factors form the basis for the selected size of your emergency fund?  

Share your experiences by commenting below!

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  1. John S @ Frugal Rules says:

    Great points Kevin! When I took the leap into self-employment we made sure we had a nice sized EF and we're still building it up somewhat. Thankfully we've never had to touch it, but it helps us sleep at night.

  2. When I make the switch to self-employment, we definitely want to beef up our EF. I would hate to not have enough and then something horrible happen.
    My recent post My Wedding Budget and Plans: Part 1 – Dress and Photos

    • Self-employment is a strong argument for a larger emergency fund, especially if the business is new. Also, when you are self-employed, liquidity is especially important even when the business is well established. A well stocked emergency fund is part of that liquidity.
      My recent post 10 Things You Should Buy Used

  3. Great advice! In his current job, it's been made clear to my husband that he's considered one of the most valuable employees, but he's had unstable jobs in the past–and mine are ALWAYS unstable!
    My recent post Why You Shouldn’t Have A Garage Sale

  4. I do not have much of an emergency fund! It is probably due to my very secure tenured teaching position and my wife's RN job. I can usually handle emergencies through savings or discretionary income.

  5. I happen to be self-employed while my husband is in a steady full-time job. We use the 6 month rule for our EF. All our living expenses can actually be taken from his income alone, and still some money left over. So anything I make is bonus!
    My recent post Addicted to Paper

  6. Finally someone who explains this! I had about 7k in an emergency fund. Now it's around 2k with the other money split up to more general savings goals. I feel like 2k isn't enough for jumping into full time freelancing in January so I'm going to add to it for sure!
    My recent post 4 Ways to Start Saving for a New Car

  7. I think your point is certainly relevant, but it might be more accurate to say that your dedicated emergency fund should be in inverse proportion to your liquid net worth. However stable you think your job is, there's always the possibility for it to be cut completely, for hours to be reduced, or for salary to be reduced. You can look no further than the recent government furloughs to see that this is true in the the most stable of examples. Income is fickle, but cash in the bank (or investments) is much less so. Sure it can lose value, but that's why the size matters. When you have significant liquid assets (meaning checking accounts, savings accounts, CDs, non-retirement investments, etc.), those are things that can be accessed in an emergency, making a dedicated emergency fund less of a need.
    My recent post Is a Coffee Habit Comparable to a Debt Habit?

    • Hi Matt – that's true, but when we're talking about emergency funds we're generally dealing with lower amounts of capital overall. If for example, you had a million investment portfolio, an emergency fund won't be critical.
      My recent post Is the Stock Market Rigged???

      • Right. That’s exactly my point. People with less capital have greater need for an emergency fund, and I would really say regardless of income. There are countless examples of people with “stable” jobs getting dropped or otherwise having their income reduced. But if you have a high amount of liquid net assets, the stability of your income is irrelevant and you likely don’t need a dedicated emergency fund.

  8. Stefanie says:

    Thank you for addressing this! I’m an actress and I find that when people write about emergency funds they rarely consider people with variable income.

    As someone who never knows when my next job is coming, an emergency fund is essential. It’s the first thing I contribute to when I start a new contract.

  9. Fantastic advice. One thing I would add is that your finances also dictate the size of your emergency fund. If you have a lot of high interest credit card debt, saving 3 months worth of living expenses is a luxury you cannot afford.
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