By Selina Jacobson, Registered Insolvency Counsellor
Of course, this is a trick question… Everyone needs an emergency fund. More importantly, you need an emergency fund. Financial emergencies don’t discriminate and the consequences of being ill-prepared can add up quickly.
What is an emergency fund?
An emergency fund is a readily accessible savings pool intended to help you through stressful and potentially costly life events – such as a vehicle breakdown, job loss, extended absence from work or a costly vet visit. Ideally, you will have between six and nine months of living expenses set aside in a designated account that you use only for these kinds of expenditures.
Why have an emergency fund?The word ‘emergency’ doesn’t often inspire feelings of happiness and excitement, does it? These are typically some of the most traumatic and worrisome experiences you can imagine. And that’s before you realize the pressure they’ll put on your personal finances.
An emergency fund helps alleviate the strain of an unexpected cost by ensuring you still have enough money to pay for your rent/mortgage, utilities, groceries and other regul ar expenses. It also guarantees you won’t have to make an unpleasant situation even worse by offsetting the cost with interest-accumulating debt.
But isn’t that what credit is for?Contrary to what creditors and predatory lenders want you to believe, credit is not a sustainable way to get you through a financial emergency. In fact, credit cards, lines of credit and especially payday loans will likely add more problems than they remove. At the end of the day, the only thing debt does is postpone, prolong and – thanks to unsustainable interest costs – ultimately increase your financial, mental and emotional stress.
Can’t I borrow from family and friends?
Shakespeare hit the nail on the head when he wrote, “Neither a borrower or a lender be; For loan oft loses both itself and a friend…”
Ultimately, it’s your choice whether to ask those closest to you for help. Certainly, most would be willing to do so. But you also need to consider the potential strain that might place on them and your relationship.
First, you don’t know what their financial situation is. Wouldn’t it be heartbreaking to learn they fell into a crisis because their emergency fund is financing your unexpected expense? Moreover, you don’t want to have the black cloud of an outstanding debt hanging over your relationship until you’ve managed to repay it. And you don’t want to be that person who’s always asking for money, do you?
What if I can’t resist the urge to spend my savings?First thing’s first: congratulations! Acknowledging this common challenge requires a great deal of self awareness – and it’s the first step in addressing the issue head on. It’s also why you need to draw a clear line between your emergency fund and regular savings account. In fact, rather than designating one blanket ‘savings’ line item in your budget, I recommend you create three.
Bucket 1 – Emergency Savings: This is a designated amount that contributes towards your six to nine months of living expenses. Contribute to this bucket every pay period until you reach that threshold. If you need to withdraw money for a necessary but unexpected expense, resume contributing to this bucket until you have returned to that magic number.
Also, consider creating this account at a different institution than you usually bank with and avoid having a debit card for it. That will force you to be more deliberate and intentional when deciding whether to transfer money out of this account.
Bucket 2 – Retirement: This is a designated amount that contributes towards your retirement goals. You’ll be adding money here every month for the rest of your career. Ideally, you already have an RRSP or other investment portfolio established. If you don’t, consider meeting with a financial professional to get one started.
Bucket 3 – Savings Goals: This is a designated amount that contributes towards things you want to buy but can’t currently afford – such as a new car, vacation, home purchase, computer, etc. Here’s where you can indulge your inner spender guilt-free.
It may initially feel difficult to incorporate this three-bucket system into your budget. When starting out, consider contributing the majority (approximately 50%) to your emergency savings, the second largest portion (approximately 30%) to your retirement and whatever you have left over (20% or less) to your savings goals. Once you’ve reached your six- to nine-month goal, you can increase what you contribute to your retirement (60%) and savings goals (40%).
Step 1: Review Your Budget
Note the essential monthly expenses you cannot live without – such as rent or mortgage, utilities, groceries, car payments, fuel, insurance, medical costs, debt payments, etc. – add these up and multiply by six. Caution: this will be an enormous number (like tens of thousands, large) But don’t fret; it’s only your long-term goal.
Step 2: Establish Your Checkpoints
How do you eat an elephant? One bite at a time! Create a series of attainable mini savings goals you’re confident you can hit over the next six months, one year, five years and so on as you work your way to that big long-term savings goal. Start at $500, for example. Then $1,000. Then $5,000, $7,500 and so on. Make a game of it and challenge yourself.
Step 3: Build Momentum
By far the hardest part is getting started. But once you’ve turned saving into a habit it’s going to feel like the most natural thing in the world. Make that first transfer next payday and every pay period thereafter it will feel easier and easier. Pretty soon, you’ll notice the stress of everyday life fade away knowing whatever challenges come your way, at least you’re financially prepared to face them head on.
Life Changing Debt Solutions
Life happens and along with it comes the likelihood of unexpected financial blows. If you’ve found yourself in a situation you feel is beyond repair or you’re facing multiple financial difficulties and struggling with debt, MNP can help.
During a Free Confidential Consultation , your Licensed Insolvency Trustee will review your situation and help uncover opportunities for a financial fresh start. Whether you qualify for a Life-Changing Debt Solution such as bankruptcy or a Consumer Proposal or would benefit from several other helpful services – they’ll help you choose the right option to defeat your debt for good. You don’t have to suffer alone, we can help you get back on your feet and on the road to a more secure and confident future.
This article was originally published by MNP. To view the original article, click here.