Good morning everyone! This article is contributed by Saving & Happy.For greater detail on this topic please visit thewebsite at www.savingandhappy.com or http://savingandhappy.com/2015/08/the-importance-of-an-emergency-fund/.
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About the writer:
I am a 24-year-old professional living in South Africa. Having recently started my journey towards living debt-free, I would like to share some of the mistakes I’ve made and the lessons I have learned about living in debt. My blog includes discussions around changes of mindset towards savings, budgeting and the basics of investing. Twitter handle: @savingandhapp
Don’t underestimate the power of an emergency fund
An emergency fund is your best friend if you are trying to get out of debt or to generally have the ability to better handle unexpected expenses. This article sets out the basics of such a fund and the reason it is essential that you set one up and maintain it.
Introduction
An emergency fund is essentially one in which you park aside money solely for the purpose of dealing with unexpected expenses.
We all have unexpected expenses that will pop-up every once in a while (much to your surprise). Recently my 3-month-old puppy was hit by a car while going for a walk. My girlfriend and I needed to rush him to the vet on a Saturday afternoon, which attracted after hour consultation fees. He has recovered well and was very lucky. The total costs for this visit was R2 000 (+-$200) and if I didn’t have my emergency fund in place, my already tight budget would have been destroyed and I would need to play catch-up for the coming months to get my finances in order.
I have been aggressively paying down my debts since February 2015 and the last thing I want to do when I have an unexpected expense is to use my savings I have been building up.
The emergency fund is essentially a barrier between the outside, debt-filled world and your investments. It acts like a buffer of sorts. Your journey to financial independence will be a long one, which requires a lot of determination and planning. Along this path to financial independence there will be various emergencies that will require varying amounts of money, such as a trip to the vet, a flat tire or even a trip across country to help family. Drawing down from your investments in order to deal with emergency expenses will only delay your achievement of financial independence. However, having a strong emergency fund in place will allow you to dodge financial challenges with a lot more ease than those who haven’t prepared for these expenses.
How does this fund work?
There is no rule regarding the size of your emergency fund, but it is good to have between 3-6 months’ living expenses set aside in your emergency fund to enable you to deal with all types of unexpected expenses. Saving up this amount of money will take some time, but remain focused and you will soon have a sizeable savings.
Ensure that your emergency fund is also easily accessible. A fixed deposit with your bank is a good way to store your money in this regard because there will be no delay in you drawing down the money when you need it. It is also for this reason that it is not a good idea to draw down from your investments, as these usually take at least 7 days to get the money out. Not only will this delay you in the short term, but it will also weaken your investments, which delay your arrival at financial independence. Should you not draw down from your investments, you may also be forced to apply for a temporary (short term loan). There may be a delay in getting this loan approved and it is also highly likely that you will have to pay interest back to the bank. Interest is good when your money earns it, but it is not good when your debt accrues interest and should be avoided at all costs.
Conclusion
This article doesn’t intend to set out great detail surrounding an emergency fund, but I just want to point out that unexpected expenses are a way of life – surely it makes sense to make provision for this? An emergency fund is especially helpful when you begin your journey towards financial independence because it is essential that you protect your long-term investments as much as possible while they are being built up. Having a strong emergency fund in place will also considerably reduce the stress that comes along with those expenses you didn’t see coming.
FAQs
Having a reserve fund for financial shocks can help you avoid relying on other forms of credit or loans that can turn into debt. If you use a credit card or take out a loan to pay for these expenses, your one-time emergency expense may grow significantly larger than your original bill because of interest and fees.
What is an emergency fund Quizlet? ›
Emergency Fund. A savings account that is set aside to be used only for emergency expenses.
How much should you save in an emergency fund group of answer choices? ›
While the size of your emergency fund will vary depending on your lifestyle, monthly costs, income, and dependents, the rule of thumb is to put away at least three to six months' worth of expenses.
Why are emergency funds important ___? ›
Emergency funds are savings specifically set aside to cover unexpected costs, like medical bills or car repairs. They are important because they can keep you from falling into debt or being unable to pay your bills if something unexpected comes up.
How much money is enough for an emergency fund? ›
Saving enough cash to cover three to six months of expenses based on your average monthly spending is a good goal. Narrowing that general statement requires getting personal. First, calculate your monthly earnings and your average monthly spending.
What is the goal of an emergency fund Quizlet? ›
The purpose of an emergency fund is to... Be able to cover an unexpected expense with cash and protect you from having to pile up debt when something goes wrong.
What is true about emergency funds? ›
Emergency funds create a financial buffer that can keep you afloat in a time of need without having to rely on credit cards or high-interest loans. It can be especially important to have an emergency fund if you have debt, because it can help you avoid borrowing more.
What is an emergency fund also known as? ›
An emergency fund, also known as a contingency fund, is a personal budget set aside as a financial safety net for future mishaps or unexpected expenses.
What is the purpose of an emergency fund quizlet chapter 3? ›
You should budget in this order: giving, savings, spending. The purpose of an emergency fund is to... Be able to cover an unexpected expense with cash and protect you from having to pile up debt when something goes wrong. Why do stores rarely advertise the full price of big purchases like smartphones?
Do 90% of millionaires make over $100000 a year True False? ›
And one crucial detail to note: Millionaire status doesn't equal a sky-high salary. “Only 31% averaged $100,000 a year over the course of their career,” the study found, “and one-third never made six figures in any single working year of their career.”
Saving $5,000 in an emergency fund can be enough for some people, but it is unlikely sufficient for a family. The amount you need in your emergency fund depends on your unique financial situation.
What is an emergency fund and how much should it be? ›
How much should I have in my emergency fund? Aim to have enough in a savings account to cover 6 months of expenses. Everyone's situation is different, so you can adjust that number based on your circ*mstances.
What are the three basic reasons to save money? ›
First, we save for an emergency fund. Second, we save for purchases. Third, we save for wealth building. Purchases and wealth building are fun, but we can't do any of that until we cover the basics—the emergency fund.
How to save an emergency fund? ›
Goals-Based Planning: Stay on Track
- Consider using a basic savings or money market account. ...
- Look for an account that pays you back. ...
- Save enough to cover three to six months of expenses. ...
- Start small. ...
- Only tap the account for true emergencies. ...
- Replenish the account if you draw on the funds.
Among the many advantages of saving is the long-term security it provides you. The future is unpredictable, and financial emergencies can crop up anytime. Saving money allows you to create a safety net for your future expenses as well as unplanned financial needs.
What power does the state of emergency give to the president? ›
The Act authorizes the President to activate emergency provisions of law via an emergency declaration on the condition that the President specifies the provisions so activated and notifies Congress.
What is the golden rule of emergency fund? ›
Creating a realistic emergency fund
The golden rule many financial planners follow is to save 3-6 months of living expenses. This rainy-day fund is meant to cover necessities such as housing, food, gas, and health care, but let's be realistic for a moment.
How many people have a $1,000 emergency fund? ›
Planning for the unexpected is crucial since life doesn't always go as planned. But only 44% of Americans are prepared for a $1,000 emergency expense, according to a survey from financial analysis site Bankrate.
What is the 50 20 30 rule? ›
One of the most common types of percentage-based budgets is the 50/30/20 rule. The idea is to divide your income into three categories, spending 50% on needs, 30% on wants, and 20% on savings. Learn more about the 50/30/20 budget rule and if it's right for you.
