How do you build, manage and invest your emergency fund?
Recently I met one of my friends who met with accident and had to stay at home for 2-3 months. He has planned his investments in aggressive way in all high risk, high return investments such as Stocks, mid-cap mutual funds etc. and some of them are currently providing negative returns. He had to break some of such investments to have his living expenses to be taken care for next 2-3 months and booked loss in such investments. How many of us would have planned for our emergency fund? In this article, I would detail about how to build and manage your emergency fund.
Do we really need emergency fund?
Building an emergency fund is primary step to avoid any financial disasters because of unforeseen events and to prevent in financial stress in difficult times. In the fast paced life-style, financial emergencies keep coming. I would categorize the financial emergencies in two types.
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a) Unexpected expenses: You may have unexpected expenses in a month due to house repairs, car repairs or some unexpected education fees for you or to your children. While your credit card can save some of these emergency expenses temporarily upto 45 days, but still you need to pay back the money after this period.
b) Life warnings: There could be job loss / Layoff or expected accident to you or to your family members. While health insurance can save your hospital bills, if you are not doing your job for next 2-3 months and you are on Loss-of-Pay, it would be difficult to run your home.
Hence I feel, it is important that emergency fund is required so that you would not disturb your regular investments during such incidents.
How much emergency fund you may require?
You can consider 3 to 6 months of living expenses as your emergency fund.
Should I invest my next 3 to 6 month savings as emergency fund?
Plan to save your emergency fund over the next 9 months to 12 months period. This way, you would not feel that you are saving only for this purpose and you can concentrate on other investment options too.
Where to invest your emergency fund?
While you are investing your emergency fund, you should look mainly for safety and liquidity. You cannot invest in stocks or mutual funds or company fixed deposits as they involve some risk.
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