If we’ve learned anything from the last few years, it’s that we really can’t predict the future. At the beginning of 2020, who would have thought we were going to be cast into more than two years of social and economic turmoil?
When life throws a spanner in the works and you end up being unable to rely on your normal income, having finances to fall back on can be extremely beneficial and provide you with much needed peace of mind.
It doesn’t have to be a global pandemic; perhaps you unexpectedly lose your job, or you get sick and are unable to earn your regular wage. While income protection insurance is a useful part of your financial support system, this is also when an emergency fund becomes incredibly valuable.
How much should you have in an emergency fund?
The question of how much you should have in your emergency fund really depends on your lifestyle and regular expenditure. Some people say you should have at least three months’ worth of your expenses set aside… but if you are just starting to build your fund, it might be easier to aim for one month’s worth and build from there.
You need to fully assess your budget to determine how much you would need to meet all your obligations. Detail everything – mortgage payments or rent, household bills, groceries, transport and other must-haves. Next you should consider how much it would cost to keep up your current lifestyle without having to cut back or turn to credit to fund your day-to-day.
If you are unsure about your incidental spending, it’s a good idea to track your expenses over a period of time so that you can get a solid indication of where your money goes. This is a great opportunity for you to also start identifying areas where you can save some extra dollars… or at least recognise where you could tighten your belt should something happen, and you need to rely on emergency funds.
Once you have worked out the figure you need, you can focus on saving. You can re-evaluate your budget and start putting regular amounts aside. If one big goal seems too difficult to achieve, break it down into smaller amounts – $1,000 at a time is a great way to start.
Where should you keep your funds?
Depending on your personal circumstances, you might want to keep your emergency fund in a mortgage offset account, or within a redraw facility. Here the funds can help reduce the interest you are paying on your mortgage… plus they aren’t as easily accessible as they would be sitting in a standard savings account… so you aren’t as tempted to dip into them!
If this isn’t an option, then open a separate savings account. Interest rates are on the rise, so compare what’s on offer and make sure you check any associated fees. The plan is that the funds will sit in the account until you absolutely need them, so with any luck they can earn a bit of interest in the meantime.
It’s not a good idea to put your emergency fund dollars in the investment market… volatility means the funds could fluctuate and you want to make sure that every cent is available when you need it.
When is it really an emergency?
What is an emergency to you might not be to someone else, so there’s no definite answer to this question.
One of the most typical emergencies that would warrant accessing your emergency fund is sudden unemployment. If you don’t have a regular wage, you still need to be able to cover your basic living costs. You have to be able to keep a roof over your head and food on the table. And of course, you need to pay bills and be able to cover transportation expenses.
But other emergencies will really depend on your personal financial situation and what is important to you and your family.
For example, if your car breaks down and needs urgent repairs, this could constitute an emergency because you need to be able to drive to work. Or if your child chips a tooth and you end up with a large dentist bill, this could be a time to withdraw some money from your fund.
The best way to think about it is that you should use your emergency fund for an unexpected ‘need’. While the money is yours and you have done a great job saving it, we urge you to resist the temptation to splurge on a great deal for a weekend away… because you never know when a real emergency will happen.
If you’d like to discuss your personal wealth management with one of our team members, please contact us today.
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