An emergency fund is a pool of dollars which you might need during any of the following ;
1. Un-expected medical expenses
2. Job loss
3. An illness
4. Major repairs in house or car
Most of the risks can be taken care of by insurance but not all. So it’s best practice to regularly sets aside some funds for the protection and having money that can assist to manage these startling misfortunes. As a rule of thumb its best to keep three-six months of savings for an unforeseen situation. A few experts suggest saving the funds close to a year`s expenses isn’t a bad idea depending upon the circumstances. Our Canadian govt. is also using the emergency/rainy day funds right now due to covid-19 relate emergency.
A customer who works in a salaried situation with a large company probably won’t need as compared to a self-employed person. Someone with a disabled child, elderly parents will surely need the funds for a longer duration. However, if you have a specialized skill for which it takes longer than normal to find the job then you might need the funds for a year. Keep in mind that if you and your spouse are working in the same type of industry then you would need more funds because both of you might lose the job at the same time.
Where should you put the funds?
Putting the money in a savings account is highly liquid and accessible. Investing the funds makes it less suitable as accessing them at a certain time could be an issue. It also depends upon where they are invested for example mutual funds, money markets, segregated funds or GICs etc. Some experts feel that Line of credit can also be used for this, however, it’s a good choice only if you don’t have enough savings because it comes with a cost of interest on top of it.
How important it is?
It’s a vital risk management tool. The lack of a proper emergency fund can have devastating financial consequences. If a person losses the job unexpectedly, employment Insurance benefits should begin, but those benefits are limited to about $1800 of taxable income every month. A period of unemployment of 2 or 3 months will force this person to start liquidating assets, borrowing at high interest rates from credit cards and would pile up the monthly expenses. Meeting the debt obligations would become very tough.
How to build a saving for it?
Make a cash flow sheet. The more detailed your cash flow will be the better you would be able to get out of it. It would help you to look at the opportunities for savings. You can cut discretionary spending. You could look for average household spending and compare where you are as compared to average Canadian. Set a monthly saving goal. Look at your spending habits, it doesn’t mean you should stop going out for alternate day lunch or weekly dinner, etc. It’s more related to a keeping a balance between the needs and wants. Budgeting may seem negative but spending is a choice. Keep a track and you would be able to see its not that hard to save a sufficient amount.
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