This strange lockdown we have found ourselves in and the resultant loss or decrease in income has left many people to ponder their financial situation and ways they have been managing their money up until this point. As I mentioned in the previous blogs, some people are just now waking up to the need for setting money aside for times such as this. The idea of the emergency fund has resurfaced into people’s consciousness, and the term is being batted around quite a bit of late. So I thought I would dedicate this space to the topic.
First of all, what is an emergency fund, and why do we need one? The general consensus is that we should have about 3-6-months-worth of living expenses put aside, that is there to be used strictly for emergencies only. This money is best kept in an online bank account (slightly better interest rate) and completely separate from your everyday checking/savings accounts. The exact amount in there is up to you. If your income is very variable or otherwise unstable, then the larger amount (6 months) would be advised. Some people prefer to have even more than 6-months-worth if their income is very unstable, or they are very risk averse, or prefer more of a cushion. Everyone, no matter how stable they think their income is, should have at least 3 months at the bare minimum, because no matter how good things are going for you right now, “s#@t” happens!
The purpose of having that fund is to keep your finances from being derailed when the unexpected happens. If you have that cushion put aside you can just dip in, pay that medical bill, or home repair or live on it through a job loss and get right back on track where you left off without throwing your whole finances into a tizzy. And even more importantly you won’t be forced to reach into your wallet for the credit card and put yourself into debt over the situation.
Someone posed the question to me recently: “How do I determine when to take money out of my emergency fund?.” An excellent question, and that is why I chose to address it in this month’s blog.
The bottom line is this, the more you budget for the unexpected, the less you will ever have to dip into your emergency fund. It’s as simple as that. So how do you determine when you really do need to break that piggy bank?
Before dipping into the emergency fund you should ask yourself:
“Do I really need to use this money right now?” Do you have some time to save up the money that you need, and get by without it for a while. Can you get by without whatever the expenditure is altogether?
“Is this something I really need to buy?” Can you borrow something (at least while you save up)? Can you make do without it in some other way?
“Is buying this thing right now really necessary?” Maybe it’s not the “need” you think it is, but more of a “want”.
“Is this purchase right now really worth the sacrifice it will take to replenish my emergency account?”
“If I don’t spend the money right now on this emergency will this situation cost me more money in the long run?” (i.e. a car or house repair that will get worse if left unfixed). In that case, by all means, do it.
And after you have dipped into your emergency fund consider if this expense is something you should be adding to your monthly budget so that you are prepared for this type of emergency in the future (I.e. beefing up your “car repair” or “home repair” fund, or adding a new category to cover whatever the expense was).
Ideally, if you have budgeted for every possible “unexpected” expense that may come your way, your emergency fund becomes just a big fat luxurious cushion for you to sit on and enjoy the security of. Wouldn’t that be a nice feeling!
Wishing you a bright secure future!