What is an Emergency Fund
An emergency fund is an easily available pot of cash to be used for any emergency or unexpected expenses. Such expenses include losing your job, the boiler breaks or your car breaks down. The purpose of an emergency fund is to provide you with a level of financial security incase the worst happens. Emergency funds should be funded by cash or short term bonds or investments that can be quickly liquidated.
How much should be in an Emergency fund
The generally accepted amount that should be in a fully funded emergency fund is 3 – 6 months of expenses. In effect your fund should be able to support you in a worst case scenario for at least 3 months if you were to lose your job. However, to start with I would recommend that new savers start with a target of £1,000. This would provide you with a small safety net while you then focus on paying off any debt. If you have no debt, work towards having 3 – 6 months of expenses.
- An emergency fund is a financial safety net incase the worst should happen.
- Start with a £1,000 emergency fun while paying off debt, then increase to 3-6 months of expenses.
- Savers should use any spare money after key expenses to build up their emergency fund.
So if you have expenses totalling £1,000 a month – including rent/mortgage, food, utility bills etc – you should aim to build up a fully funded emergency fund of at least £3,000 (3 months) to £6,000 (6 months). I would recommend saving into an instant access savings account.
How to build your Emergency Fund
Before you start putting money anywhere you need to understand where the money you earn every month goes. The best way to do this is to write a detailed budget. Your budget should list all your income and expenses – incl. rent/mortgage, food, utility bills, phone bill, gym etc. Additionally, your budget should detail any savings or debt you currently have.
After writing a detailed budget you should be able to visually see where all your money is spent, and from there start to manage it effectively. Any spare money you have as well as money from cutting unnecessary expenses should be directed towards building your emergency fund.
Make sure you set a goal! Whether this is £1,000 or 3 or 6 months expenses, make sure you have a clear and realistic goal. Having a goal will make it more likely that you will achieve the required savings amount.
If you have savings or investments
If you already having an amount of savings – this is great! If the amount of savings you have equals your goal of an emergency fund, simply label them as your emergency fund. This means, however, that you are not allowed to use them for ‘wants’.
If you are currently investing or doing additional contributions to a pension, I would recommend pausing those investments and redirect any funds into building your emergency fund. Once you have completed your emergency fund you can then reevaluate what you use that money for.