A financial planner explains how to budget for unexpected expenses, like a medical emergency or holiday travel

  • Many Americans live paycheck to paycheck and would be overwhelmed by an unexpected $1,000 expense. A bit of advance planning can help ensure you have money in the bank for surprise costs.
  • The first thing to note: Some costs are unexpected — such as a medical emergency or travel for a funeral — while others are simply irregular, such as holiday travel or a quarterly water bill.
  • To budget for truly unexpected expenses, start by building an emergency fund. Eventually you should have at least six months' worth of expenses saved.
  • For irregular expenses, look over your last 12 months of spending and identify those costs. Then, put money aside for them throughout the year so you're prepared when they come up.
  • Looking for a better financial advisor? Take the next step and talk with a trusted expert to review your portfolio »

Countless surveys over the years have found that most Americans live paycheck to paycheck, and the pandemic has exacerbated the problem. On top of that, fewer than four out of 10 Americans would be able to cover an unexpected bill of $1,000 without going into debt. 

Even if you budget down to the penny, the occasional unexpected expense is inevitable. How can you plan for these expenses? Even better, how can you prevent them from blowing up your finances? 

Unexpected, or overlooked?

Before we dig into solutions, it's imperative to understand the difference between unexpected and overlooked expenses. A true unexpected cost is unpredictable. A few examples include medical emergencies, major home repairs from a natural disaster, and last-minute travel for a funeral. There's no way to avoid these types of expenses and you have no way of knowing how much  they'll cost. 

Overlooked expenses are predictable. Some are paid at irregular intervals, like quarterly water/sewer bills, semi-annual insurance premiums, or annual property tax payments. Other costs may catch you off guard, but they're certainly not unexpected. Examples include regular home or car maintenance, routine medical expenses, and holiday expenses.

The best approach for expenses, whether they're unexpected or overlooked, is to plan ahead. While your strategy may vary depending on the type of expense, the solution for both is to save. 

Planning for predictable expenses

Maintaining a budget helps you prepare for known expenses and make room to save for unexpected ones. 

To start, review your expenses over the last 12 months. Once you note your regular expenses, make a list of those that were paid at irregular intervals, and track the amounts paid. If you're able to pay these monthly and there are no additional fees to do so, change your payment plan. If paying monthly is not possible, save for these expenses ahead of time. Set up a savings account for irregular expenses and transfer money on a monthly basis to cover them. For example, if you have a utility bill that's $300 per quarter, transfer $100 per month to a savings account to cover the expense. 

There are other expenses you know you have to pay, but the amount and timing are uncertain. Make a list of costs that could fall into this category. This will help you decide how much to save for them. 

For instance, if you own a house or a car, set aside money each month to cover regular maintenance. I suggest setting aside 1-2% of your home's value annually for maintenance and repairs. Car experts recommend saving at least $100 per month for car maintenance, adjusting to reflect your car's age and condition. Save for medical bills by contributing to a Health Savings Account (HSA) or Flexible Spending Account (FSA). 

You may have other expenses throughout the year, such as gifts or holiday travel. Decide on an amount to save monthly based on past costs. Make a note of overlooked expenses as they occur and make adjustments to your savings as needed. 

Planning for unpredictable expenses 

Your emergency fund is the first line of defense against unforeseen costs, or those we can't see coming. Generally, you should save at least six months of living expenses. If you have variable income, own a business, or own a house, you should save more. 

Don't worry if you're just getting started or behind on saving. Start with one month of living expenses and build from there. Use the same method of setting aside money each month. To make the process easier, automate transfers from your paycheck or checking account to your savings account. You can also save lump sums that you receive, like bonuses or tax refunds. Be sure to balance your emergency fund savings with paying off existing debt.

While you can plan for regular maintenance when you have a car or a house, you can't plan for things like natural disasters, burglary, or accidents. You can soften the blow by staying on top of regular maintenance and making sure that you're properly insured. Think of your health the same way. You can't avoid major medical expenses or emergencies altogether, but making good lifestyle choices helps you stay as healthy as possible. 

Unexpected costs are bound to pop up from time to time. Remember to ask yourself if the expense is genuinely unexpected, or just overlooked. This information can help you plan for the future and keep your finances on track.

Chloe A. Moore, CFP, is the founder of Financial Staples, a virtual, fee-only financial planning firm based in Atlanta, Georgia and serving clients nationwide.

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