Understand a Rainy Day Fund and How It Works (2024)

A flat tire. Emergency dental work. A broken refrigerator. Life tends to throw curveballs, and if you're not prepared, those curveballs could set you back financially. That's why it's important to have a backup fund in case you get blindsided by an unexpected — and costly — event.

As the saying goes, it's important to save for a rainy day. In fact, many people establish a "rainy day fund" that's separate from their normal emergency fund in order to prepare for these unexpected events.

So how does a rainy day fund differ from an emergency fund and how you can you start saving for one? Here are the basics.

What's the Purpose of a Rainy Day Fund?

Officially, a rainy day fund is a fund of money that's set aside by the government in case of budget deficits or shortfalls in revenue. But this term has become more commonly known as a fund of cash that anyone stashes away for the unexpected. It's a short-term fund intended to cover minor surprise expenses and help you feel more financially secure. Think of it as financial padding.Without it, you might have to resort to buying something on credit or taking out a loan.

Rainy Day Funds vs. Emergency Funds

While both rainy day funds and emergency funds are used for unpredictable expenses, an emergency fund is for big-ticket expenses and could help sustain you for a longer stretches of time. For instance, an emergency fund could cover major medical or living expenses.

On the other hand, a rainy day fund is typically for smaller financial hiccups and getting by until your next paycheck. Say your fridge breaks, your car gets towed, or your pet has to go to the vet for an emergency visit. These are scenarios when you would tap into your rainy day fund.

Think of a rainy day fund as your first line of defense against smaller, short-term unplanned expenses. Your emergency fund is your second line of defense and is meant to cover larger, longer-term costs.

How Much Should You Keep in a Rainy Day Fund?

Though it depends on your situation, consider aiming to keep anywhere from $500 to $1,000 in your rainy day fund.¹ If you can swing it, put away a bit more. In contrast, your emergency fund should ideally contain enough to cover all your living expenses for three to six months.

Whereas you may want to keep an emergency fund in a separate bank account to save it for the right situation, you may want to consider storing your rainy day fund in your savings account for easy access. This will allow you to access those funds as soon as you need them.

How to Save for a Rainy Day Fund

Saving for a rainy day fund could feel like a tall order, especially when juggling other financial priorities.

Create a Spending Plan

To help build your rainy day savings, you can start by creating a spending plan to see where you can free up some funds. Not sure how to begin? Ask yourself a handful of questions to help you master your personal budget. This will help let you determine if your spending supports your goals. If you're not sure where to begin, ask your financial representativefor guidance.

By tracking every dollar you spend for a month, you'll be able to see categories where you might be overspending. You could get even further into the nitty-gritty with the 30-day tracking challenge.Maybe you spend more than you need to on eating out or shopping. Now you can create a plan to save money by spending less in those areas.

Set Aside Cash

Next, it's good to set aside some cash regularly. If you don't have a lot of money to spare, you can start by putting away as little as $5 a week, and then you can bump it up to $10. While that doesn't seem like a lot of money, $5 a week adds up to $260 a year. Save $10 weekly, and you'll have $520 in a year.

Everyone understands the importance of an emergency fund, but a rainy day fund is also valuable. Without one, an unanticipated expense could throw a wrench into your financial situation. With a few manageable changes, you can establish a fund that helps protect you and your wallet against these unexpected situations.

Sources

1. Rainy Day Fund vs Emergency Fund. https://www.smartcu.org/smarter-habits/rainy-day-vs-emergency-fund#:~:text=A%20rainy%2Dday%20fund%20is,repairs%2C%20new%20appliances%2C%20etc..