The first piece of financial advice everyone is going to give you: set aside an emergency fund!
It can be very tempting to jump straight into investments when you get your first paycheck, especially if the people around you are growing their portfolio successfully.
Believe me, I was there too!
But we can never predict when unfortunate events will happen and it’s always good to have a backup for a rainy day.
Just imagine this scenario for a second…
You were retrenched and you are looking to liquidate your investments, but the market is performing badly and you lost part of your capital, maybe even most of it.
How are you going to feed yourself and pay your bills now?
Sounds all too real, right?
That’s precisely why an emergency fund is the first thing any adult should have before moving on to investment!
Well, of course, the assumption is that you’ve cleared your debts if you have any.
TL;DR – All You Need To Know About An Emergency Fund
Since life is unpredictable, there are times where you might be caught unprepared.
But you can always “trick the system” by making sure you have an emergency fund in place, where you’ve set aside a sum of money for urgent and unplanned life events.
Typically, individuals only use their emergency funds when they lose their jobs, have an unexpected medical emergency or unplanned home repairs.
While everyone’s situation is different, a good gauge will be to set aside an equivalent of 3 – 6 months worth of your living expenses in your high-interest savings account.
What Is An Emergency Fund?
As defined by the Cambridge Dictionary, an emergency is
something dangerous or serious, such as an accident,
that happens suddenly or unexpectedly and needs fast action in order to avoid harmful results
Nope, please don’t come to me for English lessons…
The nature of an emergency means that you’ll be caught unprepared.
Sure, I suppose you can be a little prepared with the help of sufficient insurance coverage.
What about the other policies?
Well, they usually only make lumpsum payouts in the event of major emergencies, such as a disability or critical illness.
So what happens if you are unable to work after meeting with an accident, or if your company ain’t doing well and you’re left unemployed?
Amidst getting yourself back on track, whether through recovery or through a new job, your expenses still have to be taken care of, right?
Now, this is where an emergency fund comes in handy!
How Much Do I Need In My Emergency Fund?
If you came looking for a magic number, sorry guys!
The amount you need to set aside in your emergency fund is largely dependent on your individual situation.
Typically, most people will recommend setting aside an amount equivalent to 3 – 6 months of your living expenses as your emergency fund.
Some people might advise setting aside 12 months worth of living expenses instead if you have dependents or if you are a self-employed individual or a freelancer.
Some individuals may even consider using their salary as the benchmark instead to ensure a sufficient pool of money.
But again, it really depends on your situation!
How Do I Set Aside My Emergency Fund?
You must be thinking that 3 – 6 months worth of living expenses is too much money to fork out at one go!
Now, this process might take a while, but if you follow the 50-30-20 salary allocation rule, you will soon be able to accumulate it!
In the case of an emergency fund, it ain’t the more the merrier, ya?
Once you’ve set aside the amount that you need for your emergency fund, channel the 20% into other non-emergency saving goals.
What Constitutes Living Expenses?
Don’t know how much you spend per month?
Well, it’s time to keep track of your money!
You can always do it manually using an Excel sheet or you can use expense tracking apps like Seedly.
Let’s sidetrack a little for those of you who are super new to personal finance.
It’s not a comprehensive list, but here are some examples of what you should consider as living expenses.
|Living Expenses||NOT Living Expenses|
- Rent or mortgage loan payments
- Home insurance
- Phone & internet bills
- Designer items
|Food & Grocery
- Eating out
- Personal hygiene supplies
- Household cleaning supplies
- General medicine
- Medical bills
- Hospitalisation & other insurance
- Public Transport
- Car payments
- Car Insurance
- Parking fees
- Subscriptions & membership fees
- Contributions to parents
Where Should I Keep My Emergency Fund?
When dealing with a difficult situation, your life will likely be a lot easier if you don’t have to spend too much effort to retrieve your funds.
Remember how fast action is needed to handle an emergency?
The same applies to the emergency fund!
Your emergency fund should be easily accessible and liquidated to tide you through when the inevitable happens.
So where should you park your emergency fund?
High-Interest Savings Account
A high-interest savings account will be ideal as it helps to grow your money and beat inflation and you can tap on it really quickly when you need it.
But since it’s so easily accessible, it’s important that it’s earmarked as your emergency fund.
Discipline is pretty important in the world of personal finance, my friends.
Parking your emergency fund in a high-interest savings account will be your top option.
If you are a little savvier, you can also consider putting a portion of your emergency fund low-risk investments such as Singapore Savings Bond and short-term fixed deposits.
Why can’t you put the entirety of your emergency fund in those assets? You might ask.
Well, some of these investments may take up to a month to liquidate, so it’s still better to have some in your savings account for liquidity.
When Do I Tap Into My Emergency Funds?
An emergency fund kicks in when an unexpected and urgent situation occurs, such as losing your job, accidents and medical emergencies or unplanned home repairs.
Remember how I said discipline is really important?
The latest sneakers drop or a last-minute weekend trip doesn’t count as an emergency, ya?
Also, once your situation has been dealt with, start channelling money back into your emergency fund until you’ve replaced the amount you’ve used up.
Be patient guys, it may take a while to set aside your emergency fund, but I’m sure you don’t want to be caught in a situation where you have no money!