Step 8. Save a 3-6 month emergency fund.

emergency fundYou know you need an emergency fund, right? 

After you’ve paid off all of your debt, you need to stay motivated and frugal to save up a full emergency fund.

This is money that is sitting there not earning much interest, but keeping you from the edge of disaster. It needs to be money that you can get to fast! Some people have their emergency fund in a simple savings account or in a money market account. Others keep cash at home. If you keep your emergency fund in CDs or investments, there’s a good chance that you’ll have to pay heavy fees to liquidate it or it might even be gone when you need it.

Financial planners will tell you that a fully-funded emergency fund is 3-6 months of household expenses.

“Household expenses” means the irreducible bottom line that your family needs to survive: housing, utilities, transportation, and food. So maybe your normal budget is $5,000 per month. It wouldn’t be surprising if your monthly “household expenses” came in at $3,500 or less.

But there’s a huge difference between three months and six months.

How much should you actually save? Remember, an emergency fund is about managing your risk.

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Step 6. Make a realistic spending plan

We try not to use the “B” word around my house. “Budget” sounds like a grey cinder block prison meant to keep you from living life the way you want to. “Budget” food sounds like it might taste bland and gritty somehow. I imagine a “budget” vacation in a roachy motel with a broken pool. Nobody wants to be on a budget! And even if they’re convinced they NEED to be on a budget, nobody wants to stay on a budget!

Spending Plan, budget
A screen shot of a small part of my spending plan. As you can see, we’re still paying off debt.

That’s why we don’t budget. We make a spending plan.

Before the money comes in at the beginning of the month, we have a plan for where all of that money is going to go.

In Step 3, you dreamed with your spouse the kind of life you’d like to live and some goals you’d like to reach at different time horizons. Now is the time when you make a plan to spend your money toward those goals.

With a spending plan, you and your spouse get to dream about next month and decide how you want to spend your money. There will be some expenses that are fixed (housing, utilities, certain bills, student loans, credit card payments, a certain level of food…), but beyond that, you get to decide where your money is going to go.

If you don’t have your baby emergency fund (Step 4) in place yet, you’ll want to put money toward that.

If you have a baby emergency fund and have significant debts to pay off, you’ll want to be sure your spending plan reflects the goal of paying those off quickly (Step 7).

But together, you get to decide where your money is going to go.

When Kendra and I did our first written spending plan, we freaked out.

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Step 5. Stop using debt

cutting up the credit cardsAfter you’ve saved up a baby emergency fund (step 4) you have to take the next scary step: stop using debt.

If you really want to get control of your finances right now, you have to stop using debt. That doesn’t mean canceling your credit cards. If you do that, all of your debt on those credit cards will come due immediately. But leave the credit cards at home. Freeze them in a bag of water so you have to think long and hard (and thaw them) before you ever use them again. You might even take the drastic step of cutting them up!

When my wife and I made the decision to NEVER use credit cards again, it was hard! We had quite a bit of anxiety. And rightly so. We were living beyond our means month after month. When we actually sat down and wrote out our bare-bones spending plan, we were $300 behind every month. That’s money we were putting on credit cards, getting deeper and deeper into debt EVERY MONTH! Even after we thought we had cut everything down to the bone, we couldn’t make it balance.

That is a scary place to be.

We ended up having to call Chase Credit and ask for them to reduce our interest/payment. At first, they wouldn’t.

But the more we looked at our numbers, the more we realized it would never work unless we fixed our credit card. I called them back several times with no success.

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Step 4. Save a baby emergency fund

MoneyStep 1. Find The Leaks
Step 2. Know Where You Are
Step 3. Know Where You’re Going

Step 4. Save a Baby Emergency Fund

If you did step 3, you probably have lots of exciting shared dreams and ideas about your future! But if you’re like most Americans, you are probably faced with the harsh reality that you’re carrying a mountain of debt. So step 4 is where you start happening to your money!

Before you can stop using debt (step 5), you have to save a baby emergency fund so you have some money around when things get difficult.

I know you’ve been treating your credit cards like an emergency fund. I did it too. But when you do that, everything becomes an emergency. And before you know it, instead of doing the hard work of creating a plan and sticking to it, you just put any excess on your credit card.

Suddenly you’re living beyond your means month after month. And your debt is growing and your ability to pay is shrinking. And you’re digging yourself into a deeper hole.

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New Financial Calculators

This week we’ve added three financial calculators to Clergy Financial Coaching:

Financial Position Calculator

Use this calculator to get a snapshot of your finances and calculate your net worth.  Print out a copy to compare over time.

Debt Snowball Calculator

Use this calculator to show how much time and money you can save by paying off your debts using the “snowball” method. Print out your snowball plan and get out of debt fast!

Retirement Calculator

Use this calculator to do advanced retirement planning. Are you saving enough? Play with the variables. Print off different scenarios and compare them.

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