How to Start an Emergency Fund to Prevent a Financial Disaster
Most people save money with their family’s financial future in mind. If you’re planning to buy a house, save for retirement or pay your kids’ college fee, putting away a little money every month is a great way to minimize stress and avoid loans – but what if you suddenly lose you job or run into an unexpected financial disaster? That’s when an emergency fund comes in handy.
What is an Emergency Fund?
Imagine getting a fat bonus of $5000 from your job. What is your first instinct for spending the money? A shopping spree? A trip to Paris? How about putting the money aside for a rainy day instead, in case you run into a huge financial problem tomorrow and need funds immediately to recover from the unfortunate stitch. Aside from your normal savings fund meant for future spending, you may also need an emergency fund to deal with any unplanned situations.
These saving accounts usually serve the purpose of a financial buffer in worst-case-scenarios for an easy, quick access to your savings without having to get in debt. These liquid funds are great for paying large, sudden expenses or medical bills and work as a financial cushion in case you lose your current job and need to pay for basic necessities while you find work. In the current economy, emergency funds are becoming more and more necessary to avoid high-interest personal loans and now you can make one too.
How Much Money Do You Need for the Fund?
You probably have other financial obligations to meet such as paying off student loan, applying for mortgage or fast-tracking payments for your credit card debt, but its advisable to put saving for an emergency fund on the front line in your list of financial goals. Why? Because if you’re already in debt, a sudden financial emergency can plunge you deeper in loans and make it harder to recover – but if you already have an emergency fund in place, you have a small financial cushion to fall back on in a time of crisis.
If you’ve just started your emergency fund and don’t have a lot of spare cash to stash away into your saving account, you may want to start with whatever contributions you can make – whether it’s $20 or $100 a month. Your main goal should be to have at least 2 to 3 months’ worth of your current income in the account – of course the more you save, the better prepared you are to face any financial disasters or emergencies that may occur in the future.
How to start an emergency fund
Set up a savings account that is separate from all your other bank accounts so that you don’t feel the frequent temptation to dip into your savings and use the emergency funds for other purposes. If you’re planning to make smaller contributions to your account, you may want to opt for a tax-free savings account (TFSA) but keep in mind that you TFSA has a contribution limit of $5,500 per year.
Once your emergency account is in place it’s time to start filling it up until there until the savings equal at least three months of your income. If you want a more accurate estimate of how much money will be enough to cover your expenses in case of an emergency, use one of the free online emergency fund calculators to reach your goal more easily. Try to be consistent with the contributions and set a feasible deadline to meet your financial goal.
Once you’ve given yourself a timeframe for reaching the three-month income mark, calculate how much money you will need to contribute each month to meet the goal in time. If your monthly income equals $2000 and you need to meet the $6000 mark in one year, your monthly contribution will come out to be $500. Any bonus or tax return money can also go into your emergency fund so that you reach your goal faster.
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