Congrats! When you get to Baby Step 3 you have $1000 in the bank and are completely debt free! Now it's time to start upping your net worth. But hold on! Before you start throwing all your money at investments, it's time to finish Baby Step 3, which is to put 3-6 month of expenses in savings. Okay, this is not as sexy or exciting as the previous 2 baby steps, but it is important.
Baby Step 3b is like insurance. It keeps you from going into debt ever again by providing a safety net for many common emergencies that can come up over a 10 year period: needing to replace a vehicle, temporary loss of a job, medical challenges, or fulfilling the deductible on home insurance for repairs. And I can tell you as a working single mom, this step is a game changer! It means you sleep so much better at night, knowing you have $10,000 in the bank. Whew! I used to pray my way out of emergencies, but no amount of positive thinking ever took away the stress have no emergency fund caused. Now that I have that money in the bank, not only do I sleep better, emergencies seem to happen less often! And when they do, they are merely an inconvenience, not a huge source of stress.
The average 4 person household needs about $10,000 to cover 3-6 months of expenses. Now this is expenses, what you require to keep your household afloat. It does not refer to monthly income, or "fun" spending. It is bare bones expenses. If you make $4000 a month but can run your household(mortgage, transportation, food & utilities) with about $2000 a month, then that is what you should save.
Should I save 3 months or 6 months? It depends. If you have a two income household, an extremely secure job(like with the government), you could lean toward 3 months. If you are a one income household, self-employed, or simply want to feel more secure, you should lean toward the 6 month rule. Among spouses, whoever wants the 6 month emergency fund wins! Helping that person feel more secure is worth it.
To work on saving your emergency fund, you use the same tools that I have taught you before: cut lifestyle in order to reduce expenses, work extra, sell things to up income. Continue to do your monthly budget and stay on track with knowing your ins and outs! The average person saves 3-6 months of expenses in 6 months. I did it in 3. The place to keep your emergency fund is in a place where it is liquid and accessible, like a simple Money Market account at your bank or credit union.
If you do not own a home yet, and would like to own one, saving the money for a down payment is considered Baby Step 3b. It is recommended to save between 10 and 20% down on a home for which the monthly payment is no more than 25% your take home pay. This gives you a good start on a home mortgage while still having money left over to do the later wealth building steps in Baby Steps 4, 5 & 6. A 15 year fixed rate mortgage will protect you from market fluctuations in interest, and make it easier to pay your home off early in Baby Step 5. If you are applying for a mortgage without a credit score, it is recommended you have a 20% down payment. It is very possible to do this with a company like Churchill Mortgage that does traditional underwriting, but the requirements are a bit stricter.
So that's Baby Step 3 & 3b! Please let us know how YOUR baby steps are going below, we look forward to supporting YOU to dump debt and build wealth!
Coach. Teacher. Author. Speaker.