Saving funds for emergencies is imperative to securing further exigencies. It helps an individual during a health crisis, economic downturn, pandemic, natural disaster, inflation, and other unforeseen situations.
Financial experts suggest that the ideal amount to be saved as an emergency fund must not be less than three to six months’ income!
What is an Emergency Fund?
An emergency fund is built to cover all fixed financial obligations during a non-earning period, which may arise at any point in life without prior intimation. Building it is not as difficult as we anticipate. It can be done easily by channelling money inflow and outflow, i.e., income and expenditures.
How to Build an Emergency Fund?
Maintaining an emergency fund is an easy job if done systematically. Therefore, budgeting is a cornerstone of all planning mechanisms.
Primary Steps of Building the Emergency Funds
Step 1: Diversify between Essential and Unnecessary Expenses
Every month, one must put aside a certain amount of money after considering all fixed obligations. One must also identify the areas of unnecessary expenditures and subsequently cut down on the expenses.
Essential expenses may cover insurance premiums, loan EMIs, house rents, and school fees. The money spent on food items, utility bills, etc., can be considered as variable components. On the other hand, costs incurred in dining out, shopping, purchasing the latest gadgets, etc., can be avoided.
Likewise, saving money every month will accumulate a substantial corpus after a certain period.
Step 2: Maintain a Separate Account for Building the Emergency Fund
Maintaining a different account to keep aside the saved money is always an ideal practice. In case one utilises the same account used for regular expenses, the temptation of exhausting the funds is irresistible.
An individual can further take a step forward and start an auto-debit facility with a primary account to build the emergency fund. One can also use online banking facilities for the same.
Step 3: Manage Lump Sum Funds Cautiously
Individuals must plan and keep aside a certain percentage of funds upon receiving money in a lump sum from bonuses, gifts, proceeds from the sale of a property, etc.
Whenever there is access to additional funds, a part of that should be deposited into the separate account used for building the emergency fund. Individuals can opt for low-maintenance zero balance savings accounts for this purpose that leading banks offer.
Things to Keep in Mind
The most crucial aspects of deploying the emergency funds are:
- Security of Funds
Since these funds are meant for future exigencies, they must not be exposed to market risks. Individuals should avoid putting the money into market-linked investment instruments, like stocks or any type of short-term equity-linked scheme.
Such schemes are high-risk options, and there are chances of losing money while investing in them. In fact, there are ample risks of capital erosion in short-term plans, and one may end up exhausting the strategically saved money.
- Accessibility of Funds
Unpredictable circumstances may arise at any time. Hence, accessibility to the emergency fund is one of the most crucial aspects to consider. One must be able to utilise the funds no matter how sudden the necessity is! Otherwise, saving money for such situations becomes pointless.
- Liquidity of Funds
Several investment policies are difficult to encash before the maturity dates, such as tax-saving FDs, National Savings Certificate, and corporate bonds. Even though such schemes offer the utmost security of funds, individuals must avoid investing the emergency fund in such schemes.
The emergency fund is like a parachute during a financial crisis; therefore, it is important to review the aspects periodically. Tracking all details ensures safety and security.
Every individual must look to save a certain amount every month. However, the amount may vary from one person to another. Primarily, the amount one can save comfortably depends upon factors, like:
- Income of an individual
- Lifestyle
- Number of dependents in the family
- Existing debts, etc.
Keeping all the above factors in mind, individuals must decide on any particular amount that seems affordable and save the same every month. Doing so will build up a habit of saving money as well as create a corpus to cover expenses arising out of unforeseen situations at any time in the future.
