Emergency Funds

by Thomas Riggs

Arguably the fundamental building block of your financial security, your emergency fund acts as a buffer of cash for times when life throws its curveballs your way. There are many varying opinions on how much your rainy day fund should cover, but having something stashed away is certainly better than nothing. That said, let’s have a look at how you can work out how much to keep in reserve.

What is it for?

Firstly, let’s think about what you need this fund for. This generally covers unexpected expenses that are required urgently, and thus it is often funded from an easy-access bank account for its liquidity and immediacy.

“Emergency” cases may be those such as:

Medical Emergencies
Job/Income Loss
Major Repairs (Car, Home etc.)
Family Emergencies
Sudden Tax Implications
Unplanned Travel Expenses

It is not supposed to be used for “desired” expenses, such as holidays, new appliances, luxury items/services etc. — those aren’t emergencies! However, it is meant to be used, just for when it is really needed.

Moreover, you should clear your major debts, then build an emergency fund before you focus on investing!

Common Guidelines

Often you will see recommendations stating having between 3 to 6 months’ expenses or 3 to 6 months salary as an average starting point. This, of course, is completely dependent on one’s situation and will increase with factors such as family, lifestyle, commitments, career etc. However, just having something stashed away is a start, and that could be as little as $500, for example, which you build up from there.

“If you’re trying to decide how much to save in your fully-funded emergency fund, a good rule of thumb is this: The more stable your income and household are, the less you need in your emergency fund.” (Ramsey Solutions)

In an age of credit cards and loans, many people have turned to these devices to muster up the cash needed when an emergency strikes, largely owing to the fact that they do not have an emergency fund in place. Relying on any form of loan is dangerous territory; I’m not against credit entirely — if used responsibly — but using one in place of an emergency fund is risky.

Building Your Fund

As with any form of savings, getting started can be the trickiest part. A good discipline is to save first when you receive your salary or form of income, rather than spending first and saving later. Starting small and aiming for a target over months is better than not getting started and waiting for a bonus to come around, for example.

Your bank account may have a savings aspect you can utilise to help you get going, or perhaps opening up a separate account may keep you from spending from it so easily. Try not to use things like fixed deposits, as you need this money to be easily accessible and not locked up.

Set a reasonable target for yourself, to begin with, and don’t compare yours to anyone else’s situation! Remember — your position is unique, and figuring out your own Emergency Fund is an independent goal; 3 months expenses may be plenty for you, yet useless to another person.

You should also be aware of putting too much in your fund when this could actually be going towards your investments:

“Because an emergency fund is supposed to be easily accessible and liquid, the recommended vehicle for it is usually a savings account. Savings accounts don’t even keep pace with inflation, meaning that an emergency fund is a money-losing proposition over the long term.” (Investopedia)

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Your emergency fund is not supposed to be used like investments; it’s there for when you really need it and isn’t aiming to generate its own inflation-beating returns. Think of it as a form of insurance — you’ll hopefully not have to use it, but you’ll be glad you had it when you need it most.

Need some financial advice? I’m here to help!

If you have any questions, are seeking wealth management, or just a chat — drop me an email at:

thomas@absolutefsl.com

Cover Image – Freepik

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