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Debunking 3 Myths about not Needing an Emergency Fund

Emergency fundOne of the most fundamental principles of financial planning is to prepare for the unexpected by keeping three to six months’ worth of living expenses in an emergency fund. The trouble is many people succumb to the myth that emergency funds aren’t necessary because you can always withdraw from savings. Here are 3 myths about emergency funds and why they are wrong:

The best place to keep an emergency fund is in your investment portfolio

Yes, an investment account is technically marketable; and it can provide you with access to cash should you need it. However, you can lose real money if you are forced to sell assets at the wrong time. Imagine selling off $5,000 of your equities to cover an emergency expense after the market has declined 25%. It could take you years to gain that back. Better to have that money sitting in a low-yielding money market fund. To learn more about why investing your emergency fund is a bad idea, read here.

Once I turn 59½ I can use my retirement plan

Yes, once you reach age 59½, the 10% penalty in your Individual Retirement Account (IRA) goes away. However, when you access your retirement account, the withdrawal is taxed as ordinary income. But the real issue is that it could put you into a higher tax bracket, which would be even more costly. Covering a $10,000 expense could require you to withdraw as much as $15,000 to cover taxes. While I do not give tax advice, it is important to keep tax considerations in mind when withdrawing funds.

It’s better to pay down debt than to save for an emergency fund

While paying down debt may be the best use of your excess cash flow in most situations, few would argue that it should be done at the expense of building an emergency fund. Without an emergency fund, you could end up taking on even more debt, which just compounds the problem. The better approach is to apply a portion of your cash flow to both eliminating debt and building an emergency fund.

 

Douglas Goldstein, CFP®, investment advisor, is the co-author with Grandmaster Susan Polgar of Rich As A King: How the Wisdom of Chess Can Make You a Grandmaster of Investing and director of Profile Investment Services, Ltd., which specializes in helping people meet their financial goals through asset allocation and financial planning.

Profile Perspectives is a personal finance blog based on articles Doug Goldstein, CFP®, director of Profile Investment Services, Ltd., published in The Jerusalem Post. The information posted is purely informational and does not constitute investment or tax advice. Advertisements on the site are neither endorsements nor recommendations. Consult your professional advisors before making any investments based on articles or advertisements. Securities offered through Portfolio Resources Group, Inc., member of FINRA, SIPC, MSRB, FSI. Accounts carried by Pershing LLC., Member NYSE/SIPC, a subsidiary of The Bank of New York Mellon Corporation.

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