There is one thing that is guaranteed to happen if you live in this world. Expenses! In the journey of our financial freedom, importance of emergency fund is realized, well only during emergencies. Sad but true. People go through hard times and realize the importance of emergency fund the hard way. Some people go through those phases again and again but never realize the need of it. And then there are very few who prepare for it well in advance. These are the ones who have high chances of achieving financial freedom. Because..
Remember, Income is uncertain, expense is certain.D Muthukrishnan
What’s an emergency fund and its importance towards your journey to financial freedom?
I remember quite a few years ago during the 2008-09 recession. One of my father’s friend was going through a medical condition and needed money immediately to get the operation done. He was recently made redundant from work because of low demand and he had EMI on his head to pay for the home loan. He had nothing saved for his emergency and so was forced to ask for money from friends and relatives. Unfortunately, he is no more and I realize that money can also buy life. This is why today I’m going to talk about the importance of emergency fund to achieve financial freedom.
Because anything that can go wrong, will go wrong. Sooner or later. You’ll be lucky if it doesn’t, but we don’t play with life on chances, especially during these circumstances. That’s the truth many people don’t want to hear. You are probably in your early 20s or 30s now. Getting a your dream job or a promotion and wondering why should we bother thinking about saving for emergency when we have good 20-30 years ahead to work. However, accidents doesn’t warn anybody before happening.
You gotta do the first things first. Building an emergency fund is the first thing.
Your parents are not your emergency fund, neither your kids are your retirement fund. Instead of borrowing money from your family or friends, its far much better to have it from your own. Withdrawing from your credit cards (worst thing to do ever), or taking a loan. Or even burning out the savings account completely so that the banks can charge you a penalty for not maintaining minimum monthly balance, these are all deadly options. They will take the life away from you. Make it difficult then ever to achieve financial freedom.
When to start?
If you’re a student and haven’t started earning yet, you have to ensure that the first thing you plan for is an emergency fund. However, if you’re already earning then you must create an emergency fund right now. That should be on the top of your priority list. If you’re in debt, it is even more important for you to have an emergency fund.
The amount must be at least more than your six month’s worth of expenses. Once you have this money, park it somewhere safe (more to it below). I know many who have their emergency fund which covers 5 years of their expense. These people are already well settled in their life and they probably have not touched that fund in their life, but they still have it.
I have an emergency fund because it gives me a sense of freedom that I’ll not have to ask anyone in case of any crises. It must only be used in unfortunate events that you didn’t predict and your life will be in a complete mess if you don’t spend that money. For ex. losing a job during a financial crises, health emergency, etc.
As you age, you’re going to slow down and certain tasks will become more difficult. The more you progress in your life, you’ll only experience more expenses. Hence, this is the best time to save for it. Moreover, we must accept the fact that our health and financial condition will never be the same. Saving is a habit that one needs to build and it will never happen when we postpone it for tomorrow. Hence I recommend to create an emergency fund and keep it completely separate from your other savings.
Where to park emergency fund?
As I mentioned, it should be completely separate – isolated from your other savings and accounts. Not be mixed up with any other transactions. This is very critical because when the need arises and you have nowhere to go, you’ll approach your emergency fund and consciously spend realizing that you’re in an emergency situation. If you mix it up with other accounts, you might not realize you’re consuming your emergency fund for paying the EMI of your iPhone. Because it gets auto debited.
Whenever you think of parking your emergency fund anywhere, there are few things you must remember. The place where you park it must be safe, easily and quickly accessible and not risky. Stocks are never an option for emergency fund because you never know what the market price will be when you need the money. A separate bank account where only your emergency fund is parked is a good idea. You keep the debit card of that account at your home, so you’re not tempted to spend it when you go out. Gold mutual fund or money market mutual fund is also an option but not complete emergency should be parked here.
In ancient days, the kings and wealthy families used to keep a portion of their wealth in the form of gold and used to bury it in their backyard or some far isolated location. That’s how it is supposed to be. Safe, least risky, easily and quickly accessible. Remember this image below?
Or this scene from my favorite movie – Shawshank Redemption?
It doesn’t matter what role you play in the family. Whether you’re a housewife who doesn’t earn or a student who has not started to earn yet. Whether you plan to marry someone who is well settled. Or you’re already earning good.
Majority of my readers are young, I’m talking to future parents. My point here is to educate all of you about saving and investing. So there will be no more poor families, no poor retirees. 99% of Indians at age 65 are financially failing. They are dependent on their children during their old age. I’ve hardly met anyone who knows the power of compounding in true sense. I want my words to become part of the change that we all indirectly dream of – Financial Independence. However, the majority have no time for it, that makes me sad.
If you have no time to study investing and won’t allow yourself to educate about savings and investing, how would you expect your children to save for their own future?
Saving more, reducing some consumption is a pain during working years. However, not having money for necessary consumption is a pain during emergency. Pain today or tomorrow? It’s your choice.
Always depend on yourself.
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Till then, see you.