Emergency Fund – What, Why, and HowApril 19, 2021
Emergency Fund is one of the five different savings account you should have in order to achieve financial freedom. It is important and you may have read about emergency fund in so many blog posts, financial books, and articles. But what is it really, why is it important, and how can you build one quick and easy?
This post will exactly answer these questions. Let’s begin.
What is an Emergency Fund?
An emergency fund is money set aside for unforeseen events. We all know that emergency exists. And they are much likely to happen in a day or time we all can’t predict.
Emergency funds will give you the peace of mind the for bad time. It will prevent you and your love ones from being broke or getting in debt. It will definitely save you from getting depressed and unstable at night.
Your emergency will be your first line of defense in the following situation:
1. Losing your job. A safe and secure job is not for everyone. No matter how stable you think your job is, there’s always a room for mistakes and room for sudden reshuffle, unwanted layoff and the like. If you lose your job tomorrow, how will you (and your family) survive.
2. Sickness in the family. A sickness in the family can make a sudden difference in the overall household finances. Not to mention the emotional stress the situation will bring.
3. Accident or death in the family. This is another traumatizing situation that may happen to any family. An emergency hand can help you make it through. Getting a life plan can also be a good option.
4. Car repair. A car is an asset that needs to be maintained. There might be a day you encounter problem with your car and will need money to pay the bills.
5. Unexpected disaster or catastrophe. Nothing is worse than losing your home. With an emergency fund set aside you’ll be in a better position once your house is hit by a typhoon or fire.
The developing COVID-19 situation teaches us some valuable lessons about life. How much we need to save money. Those without an emergency fund prepared, will find themselves worrying how to put ends meet.
Related read: The Importance of Saving Money
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The Difference Between Sinking Fund and Emergency Fund
It’s easy to confuse between a sinking fund and an emergency fund. After all, both are money you put at rest in order to cover for future expenses.
However, there’s a big difference between a sinking fund and an emergency fund.
Sinking Fund has a defined goal. You know exactly what you are saving for, how much you need and when you’ll need it. It could be for your wedding next year, your dream car, your birthday dinner with family or your trip abroad.
When it comes to an emergency fund, the reason and deadline is “the unknown”. You may need the money later, you may need it tomorrow, next week or next month. And the reason is unexpected and should be a real emergency.
Why Have an Emergency Fund?
Now that we’ve clearly defined what an emergency fund, let’s now go to the reason why you should build one.
The number one reason why you need an emergency fund is because emergencies do happen. It’s unavoidable and unexpected.
If you suddenly lose your job? If your car breaks and you’ll need to replace it? If you or a family member got sick? If you house is flooded or caught on fire? If your only phone or laptop you use in your job stopped working?
How will you pay for an emergency?
- You have no other choice but to borrow money from others
- Use your credit card Take a loan (SSS, PAG-Ibig or salary)
- Sanla ATM
Huwag naman sana.
Thus, make sure you have an emergency fund in place.
An emergency fund allows you to:
1. Avoid debt and/or pulling from your savings accounts
2. Rely on buffer money in case of medical emergencies
3. Have peace of mind
4. Avoid late payments
5. Get ahead smoothly in your financial life
Who Should Have an Emergency Fund?
ALL OF US needs an emergency fund as all of us can encounter an unexpected bump in the road. Emergency Fund is even more important if you resonate to any of the following:
2. You or someone in your family have medical issue
3. You are only relying on one income
4. You are trying to get out of debt 5. You are focused to be financially at peace
How Much Should Your Emergency Fund Be?
Financial experts agree that an emergency fund should be worth 3 to 6 months of your expenses.
For example, if your monthly expenses is Php 15, 000, your emergency fund should be between Php 45,000 to Php 90,000.
If you don’t know how much your total monthly expenses is, then you can use your income as a metric. Should your monthly income be Php 25,000 then your emergency fund needs to be in the line of Php 75,000 to Php 150,000.
Why should it be that big?
The reason for this is because studies show that a person who lost his/her job or experienced an emergency whether be medical or death in the family, will need an average of 3 to 6 months to financially recover.
In that 3 to 6 months you may be able to find a new job and cover the succeeding expenses you’ll have.
Should you find it hard to save up 3 to 6 months worth of your expenses as emergency fund then try to build a Baby Emergency Fund first. Set aside one month total of your monthly income. Meaning if your income every month is Php 13,000 you need around Php 13,000 too, on a separate savings account as your cash cushion.
How to Build Your Emergency Fund
Here’s the step-by-step process in building your emergency fund.
Step 1. Determine how much your emergency fund is
The very first step is to calculate how much you need to save as your emergency fund. Again to review, your emergency fund is worth 3 to 6 months of your monthly expenses. If you haven’t figured out expenses yet, you can start by getting a piece of paper and writing down how much money comes in and everything you spend money on every month.
Once you have the number, multiply it by 3 or 6 depending on what you’re comfortable with. Again, if you still have debt and money is scarce at the moment, you can set up a baby emergency fund first.
Step 2. Now set an amount you will set aside as your emergency fund
Now that you know the end goal, the next step is to know how much you will need to save up every single month in order to achieve it. One that will play a factor here is when do you want to fully fund your emergency fund.
For example, you set Php 60,000 as your emergency fund and you want it to be built by December 2021. Thus, you will need to work backwards and set aside at least Php 7,500 in the next 8 months.
The longer time frame you have in building the emergency fund, the lower the amount you will need to save.
Step 3. Automatically save your emergency fund in a specific savings account.
Lastly, just automatically put amount in your emergency fund. Stick to your plan. Make sure that you stay on track and save automatically. Create a system that will enable you to keep funds for the rainy days.
Related read: 11 Ways to Build an Emergency Fund from Scratch
Where to Put Your Emergency Fund?
The simplest answer to this question is this…
Keep your emergency fund in the safest and the most accessible place it could be.
You want your buffer money to be readily available if an emergency happen. You also want it to be safe and protected as well.
A dedicated savings account is the closest thing I could think of for a good place to safekeep your emergency fund. It could be a normal savings account from local bank you trust.
Places you should avoid in keeping your emergency fund are the following:
- Under your pillow or on a piggy because it might get stolen
- Stock market because it is too risky
- Buying branded shoes and bag just to resell it at times of emergency. Yung totoo?
Helpful Tips as You Build Your Emergency Fund
1. Pay Yourself First
Always remember this when building your emergency fund. Saving money is more than just having a reserve amount. It means prioritizing yourself! The essence of saving money is to pay yourself first. As soon as you receive your pacyheck, put aside a certain amount towards your emergency fund before anything else.
2. It’s okay to start small
Again, you don’t need to fully fund your emergency fund right from start. If you find it really hard with your current financial situation, it’s okay to start small. What’s important is to have that fund rolling as early as possible because emergencies can happen.
3. Resist the urge to spend your extra money
Try to put any extra money you receive from bonuses at work or salary adjustment to your emergency fund. The earlier and faster you can fully fund your emergency fund, the better. It’ll give you more choices in life.
Final Notes from SavingsPinay
If you don’t have an emergency fund, you need to start building one today. I hope this post helps you establish your own emergency fund.
Izza of SavingsPinay helps Filipinos bridge the financial literacy gap one content at a time by providing insights and tips on budgeting, saving, investing, side hustle and growing your net worth. Aside from this blog she also writes at www.izzaglinofull.com, a beauty and lifestyle blog for frugal Pinays and manages, www.izzagevents.com, a wedding and event business since 2011. For inquiries, topic suggestions or future collaborations email her at firstname.lastname@example.org