WHAT IS AN EMERGENCY FUND?
- Emergencies are those unexpected events which we generally don’t plan for.
- The most common examples of emergencies that people save for are unexpected medical bills, sudden job loss, major car repairs, accidents or financial crises.
- Emergency fund planning is a critical part of financial planning because sudden changes in life do not put your whole financial plan off track.
- An emergency fund can turn a crisis into just an inconvenience.
- During an emergency, you need immediate liquidity and this fund is what comes to your rescue.
- There are two situations where you’ll be glad you have that emergency fund:
- Surprise expenses
- Loss of income
WHY DO YOU NEED AN EMERGENCY FUND?
- Having an emergency fund is extremely important because you are always prepared to deal with what life brings – good or bad. It is a good idea to make an emergency fund one of your highest saving priorities.
- The reason to have an emergency fund is simple: You don’t know what’s going to happen.
HOW MUCH MONEY SHOULD YOU SET ASIDE FOR EMERGENCY FUND?
- You should set aside, between three to six months’ worth of your living expenses, in your emergency fund. The amount required by you would depend on your specific situation – whether or not you have children, carry substantial debt and types of insurance coverage.
- In case you have a volatile business, maintain an equivalent of 12 months’ of expenses in your emergency fund.
- In case you have a job and EMI running, which is over 50% of your salary, you should aim to keep an equivalent of around 6 months’ expenses in your emergency fund.
- In case you have a fairly stable job and a working spouse, you should aim to keep an equivalent of around 3 months’ of expenses in your emergency fund.
HOW TO BUILD AN EMERGENCY FUND?
- Funds required to meet emergencies of life cannot be built in a day. Better approach is to start keeping aside a fixed amount of money each month. This way, over a period of time, small-small savings converts itself into a substantially big emergency corpus.
- You can use the systematic investment plan (SIP) route to build the required corpus slowly or over a period of time.E.g. if you need to have Rs 1 Lakh emergency fund, you can start saving Rs 10,000 per month and create this in a 10-month period.
WHERE SHOULD YOU PARK YOUR EMERGENCY FUND?
- The most important part of emergency funds is liquidity and safety. Generating returns is not the primary focus here. You have to ensure that the invested capital is always protected.
- Some of the top choices for such situations are:
- Savings account
- Liquid funds
- Ultra-short debt funds