Imagine waking up to find out that your role has been made redundant and your job gone. This has been the experience of many professionals since the onset of the Covid-19 pandemic. However, being able to cope with such an occurrence will be a function of how financially prudent you have been and whether you have an emergency fund – money put aside in an account for large unexpected expenses such as unforeseen medical expenses, sudden repairs at home or for your car, and unemployment. An emergency fund is usually held in an easily accessible account, usually a savings account.
Everyone needs to be prepared for unexpected eventualities and needs to save towards that. This can be easier said than done when there is barely enough to use for daily expenses, but it’s necessary in the long run. Emergency funds act as a buffer that keeps you going when the times are tough and saves you from having to take out loans with high-interest rates. An emergency fund would also help you avoid borrowing in times of need.
How to put together an emergency fund
There are a couple of ways to build your emergency fund. Here are a few of them.
- Saving shouldn’t be an after-thought, it should be one of the first things you do once you get your paycheck. Pay yourself first before you start paying your bills, and then you can spend whatever else you have left.
- Calculate how much you need to save. Typically, your emergency fund should be able to cover up to six months of your living expenses.
- Set a monthly goal. Once you have figured out how much you need to save up, decide how much you would want to save monthly. Make things easier for yourself by having it automated. That means your account is deducted of a certain amount at a specific time every month. This reduces the chance of you forgetting or using it for something different.
- Save your change. Set a jar aside to keep loose change like from when you break a large bill, get a small amount of cash gift, etc. You can save them until the jar is full and then transfer into your emergency account.
- Slash your budget. It goes without saying that if you are trying to achieve your goal of saving some money then you would have to cut down on some of your expenses. You can cutback by reducing the number of times you eat out, stopping unnecessary subscription payments, etc.
- Assess and adjust your savings. Check now and again to see how your saving is coming along and made adjustments where required to enable you to meet the goal. This is important especially if you have recently needed to use out of your funds.
- Let your money grow. While you try to save, let your money work for you by putting it in a high yield savings account, money market account, and so on. Every extra money you get counts, so make sure you are getting a good return on your investments.
Types of emergency funds
It’s a good idea to divide your savings into two – short-term emergency funds and long-term emergency funds.
Short-term emergency funds should be used for irregular but inevitable expenses such as car maintenance, replacing a broken appliance, or can be used as instant cash while you wait to access your long-term funds.
Long-term emergency funds on the other hand are used for more long-term expenses such as natural disasters, job loss, health issues, etc. This should be placed in a different account from your short-term funds but it should also be easily accessible.
What counts as an emergency?
The purpose of your emergency fund is not for leisure or entertainment. Buying a new flashy TV because your old one broke down doesn’t qualify as an emergency. In order to know what an emergency fund should be used for, you first need to understand what an emergency is. An emergency is something that requires immediate action, anything that could affect your wellbeing or an important asset of yours such as your car or home.
Some examples of emergencies include:
- Health emergencies – sudden health problems could leave you with heavy medical bills that need to be sorted or immediate operations that cannot wait.
- Family emergencies – sudden death or other family emergencies could mean that you have to travel or make arrangements for the associated bills to be settled.
- Car repairs – cars can break down at any time or might be involved in an accident which would incur .
- Replacing a major appliance – major appliances such as your deep freezer, or air conditioning unit could break down.
- Job loss – job loss can happen at any time and while you try to get another job, you still have to be able to pay your bills and care for the family.
The difference between successfully navigating a financial rough patch and drowning in debt could be having an emergency fund. Be intentional about building one.