What & # 8217; the difference between a ...

I recently received a great question from a reader I would share. The reader asks:

"I hate to pay overdraft fees ... (I) keep more money in my bank account, so that you do not have to pay for them. It is an emergency fund?"

Very good question. The reader asked if the cash cushion that holds your checking account against sanctions inadequate land can be protected as part of their emergency fund.

Short answer: no. Here is why.

What is an emergency fund?

One of the most important rules of personal finance is that you get an emergency fund.

Most of the emergency fund should cover the cost of living in a position to 3.6 months. If you have a stable job (like a job where your salary is highly dependent on commissions and bonuses, or if you are a business owner or independent, or if you work in an industry loss), you can raise money 6-9 months to cover living expenses.

This fund should be used to pay for these shock: loss of a job. A serious hospital bill. A big bill for one and one-year-old healthy dog's veterinarian.

In other words, an emergency fund used to cover unexpected costs. The fees that you can expect - such as car repair bills (all cars break down from time to time) - should be paid through a special fund for this purpose.

(Read more: If using on your emergency fund and several savings ?.)

What is a pad?

A pillow, by contract, is a balance in your savings account to protect against insufficient funds and overdraft charges penalties.

"What does this mean?"

Imagine exactly $ 1000 in your account.

On Monday, a check for $ 200 is written to pay your invoice with your credit card online for $ 400, and you use your debit card in the amount of $ 400 at the end of Monday, you have outstanding fees from your checking account to $ 1,000 deducted.

Suppose the credit card and the payment of invoices paid $ 400 $ 400 debit card at a time after Tuesday. On Wednesday, check your account and see that you still have $ 200 there.

You are a busy person with a lot of things in my head; They forget that you wrote a check for $ 200, which is still pending. They assume that the $ 200 your checking account is yours for the taking, if you withdraw $ 40 from an ATM.

Later that day someone tries to cash the check - but only a balance of $ 160, in other words you have sufficient funds. Rebounds tax and bank charges overdraft fees of $ 35.

How can you help? Keep a pad in your account. Some people keep a cushion that are as small as $ 100; others feel more secure when hidden $ 1,000 in your account. The less time you want to track your sales, should be plus the pocket.

(Read more: You track your expenses with different accounts)

This pillow is your starting point checks the account balance. Once your checking account with this mattress, you should mentally "short".

You are not technically open to the eyes of the bank; It checks do not bounce or be hit with penalties for lack of money. But if you dive once under the pillow, you should consider to maintain a balance of "zero" in his own mind.

Using the same example: Let's say your "cushion" is $ 300 What would have happened?

First - If you had $ 1,000 in your account, you will never make $ 1,000 payments on Monday. You want to mentally imagine that your bank account has only $ 700, because the other $ 300 inviolable pillow. You can not buy something with your debit card that day.

Secondly - if it go wrong payments of $ 1,000 Monday, you notice your error check your balance and see that $ 200 in your account. This activates an alarm in your head, because this amount is lower than the pillow. You withdraw money from an ATM. Instead, rushing to deposit money into your account as quickly as possible the reconstruction of the mattress.

The Bottom Line: A buffer is a small scale - to keep ($ 100 $ 1000) in your checking account to avoid overdrafts reasons. An emergency fund is a good balance held in a savings account to be help in the interest of the catastrophic situation such as loss of employment of trouble. They are different concepts; Your platform is not an emergency fund.