What is an emergency fund?
If there is one thing that the current pandemic has taught us is that situations of emergency can hit us at any time in our span of lives. Rebuilding life after a state of emergency can be challenging. The only thing we can do to prevent us from these situations is to be prepared from the start. While some of the situations are natural and can be taken care of, some conditions when they arrive keep you off your work and are not under your control. Ensuring that you have enough financial standing to pass through these times by building emergency funds and things are under your control.
The question that arises is what is an emergency fund - it is a money pool that helps in moving forward with life and meeting your required expenses without choosing for last-minute, unplanned loans, over usage of your credit card, or selling and mortgaging your current assets.
For emergency funds, you may need to look into the mandatory expenditures, which are essential expenses. In ideal situations, obligatory expenses include - Food and medical treatments (if any), lodging, monthly installments of your loans, school and college fees, basic restorations and maintenance, premiums of insurance, and anything you feel is vital and cannot be looked past.
Nevertheless, there is no standard definition for what permits as mandatory. For instance, some may require affording support staff such as household help and drivers; many of us might find a gym membership or yoga class membership impossible to withhold even in times of financial despair.
How to save for an emergency fund?
Creating a roadmap is the first step of financial planning. If you are just a beginner in creating an emergency fund you can follow some steps and keep them in mind. We never know for how long our emergency may last and the funds should be created in a way that we can at least carry on with the funds for 3 to 6 months in ideal situations. The ideas below will throw light on how to save for emergency funds and manage your finances for trying times.
Take stock of existing assets
You must already be the owner of some amount of assets that can be well channelized to your emergency funds. It could be the extra money in your savings account, a fixed deposit that is not aimed at a particular goal in your life and others. You can allocate some of the money from the same to your emergency fund.
Determine the fund amount you need
Determine the amount of fund required that you might need as emergency funds. Knowing a set number will help in the process of savings. You can also draw a monthly commitment towards your fund that will help you reach the set amount fast and steadily. It will depend on the amount you have set and the amount you can pour into the emergency fund. You could do some budgeting and get to a final figure.
Set a monthly savings goal for emergency need
As we talked earlier about the same on how to build an emergency fund, having a monthly budget on the amount of money you are looking to save will give you a clear picture of the funds that will be required after making all the required alterations as per your expenses and needs. The best way is to split it into a monthly commitment, it does not pressure you to save a great amount of money at one time and lays down good period of time to build your emergency fund.
Open a separate emergency savings account
We are always tempted to spend the extra money we have in our savings account; you could stack this money and create an emergency fund out of the same rather than spending it on demand and not need. If you are tempted to spend that extra cash and worried about where to keep emergency fund, you can transfer that to a new savings account and create to accumulate the money for your emergency fund.
Use only in emergencies
This one is another promise that you will have to make to yourself. You will have to be stern about the fact that the funds you will save will only be used at the time of emergency and not for any other situation. It is easy to spend your saved amount on things less necessary than emergency but the whole purpose of having an emergency fund is to save money for the time there is an absolute emergency.
Why you need an emergency fund?
While dealing with the time of emergency, money plays a very vital role. So, we will always need emergency funds to save yourself from a situation where you will have to fall into debt or look for loans. The cases of emergency come unannounced and not in all conditions are we ready to deal with the monetary pressure it might bring along. Therefore, having an emergency fund ready for such situations is of utmost importance.
For example, if you suddenly lose your job and it is taking time to find a new one then this emergency fund can come into action. An uninvited illness is also a case of emergency that will require some extra cash which can be withdrawn from your emergency fund.
How much should your emergency fund have?
While you are looking for the answers to the question - how to build an emergency fund, you should also know about the amount of money that you should have in your emergency fund. It totally depends on your income and the expenses you have. For instance, if you earn 30k a month and you have expenses of about 15k the amount you should have as an emergency fund shall be somewhere between 60k to 1lakh.
Also, if you have more sources of income and a percentage of the same can be added to the emergency fund it will be a great option for better savings.
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This Article is for information purposes only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Newsletter. The information contained in this Article is sourced from empanelled external experts for the benefit of the customers and it does not constitute legal advice from Kotak. Kotak, its directors, employees, and contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein