As the name suggests Emergency Fund will be used only for Financial Emergencies.
According to a survey, 73% of Indians fail to plan for any financial emergencies.
45% said they were not ready to manage expenses in case of a job loss,
25% were concerned about not being able to meet emergency medical expenses.
In Professional financial planning, the very 1st step is to build your emergency fund before you start investments. But most start investing without having enough protection for financial emergencies and often land up in premature withdrawing of their investments.
An emergency fund should be at least 6 months of your monthly income. (If for 1 year it would be great)
Example: If you earn Rs.40, 000 a month and Rs.25, 000 of that goes into meeting your regular expenses (including Loan EMIs), then your emergency fund should be around Rs.1, 50,000. (25,000*6)
Covid-19 crisis was a situation where in most of us had lost their regular income due to lockdowns, realized the importance of Emergency Fund.
Many had investments in properties, but it could not be liquidated.
Many also had shares and mutual funds but had to withdraw these investments in losses.
Where to park emergency funds.
Emergency funds should be maintained in the most liquid form.
That’s why it should be parked in a highly liquid asset, Like your bank Fixed deposit account with an auto sweep option.
Liquid funds of mutual funds, short-term RDs.
The idea is to have immediate access to this fund in case of an emergency.
Suppose you have Rs.1,20,000 accumulated as your emergency fund. You can keep Rs.24,000 in cash at home, let Rs.24,000 stay in your savings bank account, and invest the remaining Rs.72,000 in a liquid mutual fund or FD. In the ratio 20:20:60
How to build
Once you know your monthly expenses start collecting month by month even before starting your investments. Fix a monthly amount that would go into the emergency fund. Once you have accumulated your 6 monthly expenses keep them in liquidity.
Note: An Emergency fund is not for an investment purpose in which we can generate high returns but it’s a fund to protect you from a freefall in the event of a financial crisis. So that you don’t sell your gold, don’t break your Mutual funds and other investments.
It should be safe, handy, and accessible.
It should be reviewed every year as many changes take place in our lives.
An emergency fund will keep you stress-free.