The ultimate guide to building an emergency fund

building emergency fund

The idea that you should be setting aside a portion of your income for an ‘emergency’ rather than banking it straight into your savings can be a hard one to swallow, particularly if you’ve got your eye on a new car or even your first home, but trust us – it’s worth it. The key is to start now.

Here are 5 steps you can take to start building your emergency fund.

What is an emergency fund?

An emergency fund is a cash kitty that you have set aside for unforeseen events that put an unexpected dent in your wallet. This money isn’t tied up with any of your other financial assets, like investments, it’s either sitting in your bank account or a safe place that makes it easy to call upon when the need arises.

It’s important to remember that this money is for emergencies and not ‘emergency holidays’ or lavish brunches.

How much should I have in my emergency fund?

The general rule is to stash three-to-six months’ of living expenses in your emergency fund, so if something happens you still have the funds to cover rent or mortgage payments, food, utilities, medical costs, transport and any debt. Basically all the costs you need to survive.

Find out how much you should stash in your emergency fund using our free Financial Health Check.

Why should I have an emergency fund?

Like we mentioned earlier, setting up an emergency fund is not the most obvious or exciting thing to do once you start earning a regular income. You probably want to use that money to pay off debts or grow your wealth in shares or property investments, but your emergency fund only has one job – to sit there.

The biggest and best reason to set up your emergency fund right now is to give yourself peace of mind in the future. Bad things happen and a lot of the time there’s nothing you can do about it, except be prepared. One day you might lose your job unexpectedly, have your car stolen or suddenly be faced with expensive vet bills. And in these cases, not only will your emergency fund remove a hefty part of the financial burden but it also gives you options.

How do I save for an emergency fund?

Like we mentioned above, you should have three-to-six months’ worth of living expenses stashed away in your emergency fund. For many, finding that money can be difficult because you’ve probably already allocated most of your income to savings, debt payments, expenses etc.

But here are five simple ways you can start building your emergency fund.

1. Think of your fund top-ups like bills

Think of your emergency fund contributions as compulsory payments that you have to make regularly. If you head into emergency fund saving with the mentality that it’ll be impossible to achieve, there’s a good chance it will be. Just think of building an emergency fund as a ‘need’  not a ‘want’.

2. Start small.

Don’t feel like you have to deposit thousands of dollars into your emergency fund in one go. Start out with small increments to get you in the habit of saving. Even $20 a week can set you up for regularly growing your fund and put you in the right mentality for spending and saving.

Read: Top habits that make savings easier

3. Find the income stream.

If you’re struggling to find the money to funnel into your emergency fund then you really only have two options: 1) find ways to cut cost, or 2) make more money.

Read: 10 things to cut from your budget

Otherwise, it’s time to explore other avenues of making more money. One easy way of pocketing a tidy sum each year is by funnelling your tax return straight into your emergency fund instead of blowing it on ‘wants’.

That way you’re not forgoing any money you’d previously budgeted for something else. Another way of earning extra money regularly is by freelancing. If your full-time job isn’t too demanding, this is a great option you can use to fill your hours and fill your pockets.

4. Make it automatic.

Set up automatic transfers within your account on the days you get paid. This way your money is moved before you can spend it – out of sight, out of mind.

5. Work your way up.

Once you’ve saved a reasonable buffer in your emergency fund, you’re well on your way to having that peace of mind.

It’s not so much about the total sum sitting there, but more about the fact that you have a healthy habit of depositing regular money there, to the point where you don’t even think about it anymore.

If your income increases as time passes, make sure you adjust the amount of money you’re depositing into your emergency fund to reflect this.

Summary

Maintaining a topped up emergency fund is an extremely important habit to get into, for the benefit of you and your family.

If you reach the point where you’ve got more than 12 months’ worth of living expenses sitting in your account, then you’re probably not doing the best thing for your money. There’s a high chance you’re earning less in interest than the rate of inflation from your high interest savings account.

If this happens, a good idea is to invest the difference so you never have to break the habit of depositing, and have the extra peace of mind that it can be liquidated (with a higher return) for any future emergencies.

Find out if you’re ready to start investing using our free Financial Health Check.

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Also published on Medium.