Like many adults, you probably have numerous savings goals and limited funds. Setting priorities can be difficult, especially when you don’t know what the future holds and you’re getting conflicting advice from friends, family members and experts.
Create an Emergency Fund First
Planning for emergencies should be your top priority. You or your spouse may get laid off or suffer a serious illness or injury, or another expense, such as a major car repair, may crop up out of the blue. An emergency fund is a safety net that can help you prepare for those types of scenarios and give you peace of mind.
Financial experts disagree on how much money you should have in an emergency fund. Three to six months of living expenses is a good ballpark, but it may be a good idea to set aside more if you or your spouse is self-employed or has an income that fluctuates or a job that isn’t secure.
If you have reason to believe that a major expense may be somewhere on the horizon, it may be wise to build up a larger emergency fund. For instance, if you have an old car with high mileage, plan for a costly repair bill.
Then Start Saving for a House
After you have built up enough of a financial buffer to survive hard times, you can begin to focus on saving for a down payment on a house. You don’t necessarily have to put down 20%, although doing so can help you avoid paying for private mortgage insurance. If you put a lower percentage down, you may be able to reach your goal of becoming a homeowner relatively quickly, but you will pay more per month with PMI.
Another reason to save for an emergency fund first is that a mortgage lender will require you to have reserves. Providing a borrower with a home loan is risky for a lender, so the company will want to be confident that you’ll be able to make your monthly payments if you lose your job or suffer some other type of financial hardship. Reserves may be in a checking or savings account, stocks, bonds, retirement account, or a combination.
Many people who want to buy a house don’t realize that they will need reserves after making a down payment and don’t have enough money set aside to satisfy their lender’s requirements. If you build an emergency fund first, you won’t have to figure out how to come up with reserves when you’re getting ready to buy your dream home.
Set Clear Priorities
Everyone’s financial situation is unique, but some things are universal. An emergency can happen to anyone at any time, so it’s critical to be prepared. The amount of money you should set aside will depend on your circumstances, but you should be sure that you have enough of a cushion to survive a setback before you focus on buying a new home.