And so you're off to the emergency fund room
I have this stash of about R 100 which I keep in a secret compartment in my wallet for in case something happens, as life does. It’s especially for that day when you need a coffee or parking at a shopping mall – and you don’t have any money on you. As Murphy’s Law reminds us, anything that can go wrong will go wrong. We try and stay ignorant, and when the unspoken happens – like you have urgent medical expenses due to a brain aneurysm.
Now imagine you lose your job.
Your car breaks down.
Your wife leaves you.
To top it all off, you find yourself at the doctor with blood haemorrhaging from your arm where you got a tattoo recently.
Lo an behold – you find yourself financially ruined.
We sort of need a bigger secret compartment in our wallet that we can forget about until the time that we are in need.
Why do I need an emergency fund?
Let’s say you could do something about all of the above issues before it happens. Wouldn’t that be nice? For this reason, we can start planning for disaster: don’t fail to plan!
An emergency fund allows us to buffer against financial disaster.
If you cannot save enough money to buffer certain disasters, you need to get insurance to over this. For example, not everyone has R 5 million available for in case they crash into a Bentley. And if you don’t, it might be advisable to have insurance to cover that.
The point of an emergency fund is to have it for emergencies – unplanned emergencies that you need money for – or you might die. You should not use this money because you did not budget properly, but for things that are urgent, life or death, and things that cannot wait for your next paycheck.
Different types of emergency funds
Yeah, I thought I would throw this one in here… You thought there’s only one, right? Well, you could lump it all together, yet I suggest that you know how the money is split for your different purposes – different secret compartments.
The three main emergency funds are personal, business and investment. I like to refer to my property emergency fund as my investment emergency fund. For this article, I will discuss the personal emergency fund, as this is relevant and important in its own right.
The personal emergency fund
Your emergency fund is for your things. Think of it as the ‘you’ fund that lets you sleep soundly with the storm outside. Here are a few ideas what should qualify for spending:
- Retrenchment or getting fired – in the local economic climate this is a reality we would not like to think about. Use the money until you can find a new job
- Your car broke down so badly that you are so financially ruined, not even your mom loves you anymore – I do recommend that you need to save for car maintenance and services separately.
- Medical expenses in case of an emergency – if your medical aid doesn’t cover it and you might die, then use this with discretion. Don’t use it for day to day medical expenses like chronic medication or vitamins!
- Your geyser burst and the place is flooded.
How much do I need to save?
The general feeling in the personal finance community is you need 3 months of expenses in an emergency fund account. More than this can be saved, and less is too risky.
Though this is not a one size fits all, it’s a good starting point for the normal Joe on the street.
Do you need more than that? Well, here are some questions to get you thinking about that:
- If I get retrenched or fired,
- How easily can I get a new job? How long will it take? 3 months? 6 months? You will need about that amount of money available within 30 days of something like this would happen or you could starve to death.
- Could this ruin my career? If yes and you need to look into how long it might take to rebuild it or change careers and make enough money to survive
- Of my car broke down into smithereens or my insurance failed to payout after an accident, what would the financial impact be?
- If I need to visit the emergency room today and my medical aid does not cover the expenses, what do I need to pay?
This is a really cool tweet from Brian Feroldi – he believes that we need a minimum of 3 months, and depending on the factors involved, we need to add extra monthly expenses on top of the basics.
Property/Investment emergency fund
Some investments require us to have extra cash available in case something happens. Property is an excellent example of this.
Many of us have a rental property, but few of us have the capital if things go south. I budget for at least 1 month per year for each rental property to stand empty, just as a safety net. Unfortunately, you still need to budget for other crisis – think about the kitchen being ruined due to a geyser bursting or the tenant decided to do animal sacrifices in your living room.
How much do I need to save?
Your business emergency fund should not be the same as your personal emergency fund. This should be a separate fund.
I suggest having a minimum of 2 months of rent available – remember tenants can vomit all over your beautiful kitchen and leave it as is for 6 months!
Do you need more? Here are some questions to get you thinking:
- If my rental property stood empty for a month and the tenant destroyed the bathtub, how much would I need safely to be okay?
- If the levies went up with 35%, and the geyser broke, what would I need to have saved to survive?
Where should I save my emergency fund?
Try and get the best interest rate for your money with the shortest term.
The money should be available to you quickly, as you might need it quicker than you think.
An awesome place to save this is in your bond – that is, if you have a flexi home-loan account. You should be able to store the money in your home loan account and withdraw it when you need to. You would in effect be saving the interest that you would need to pay to the bank.
Another place you could consider is in a money market account – it’s still quickly accessible and is interest bearing.
Find out from all the banks’ websites which will give you the best interest rate and determine if it would be worth it to FICA and Rica with a new bank for the difference you would get.
I realise people don’t want to think about things going wrong.
Who cares if your aorta gets ripped out by a bic pen and you need money urgently?
I do believe that rainy days do come and we can be ready when things happen.
For peace of mind, cover yourself for short term emergencies.
so, now – go!
Sources consulted / Extra reading
Frugal Local runs his own company (Effectify). He does software development and helps small businesses and startups with digital solutions. He enjoys writing articles and simplifying complex things – such as the article you’re reading!