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Why an Emergency Fund is a Game-Changer and How to Calculate It

by Carol Glynn - Finance Coach, Chartered Accountant

Some of the most shameful or stress-inducing events in life are being fired from your job, losing your income, or not having enough money to pay your bills. Worrying about money is the number one cause of stress globally for men and women. And knowing that, is it any wonder arguments over money is the number one cause of divorce worldwide?

We fear not having enough money or losing our jobs. Our money values and mindsets can feed these fears. And they are so deeply personal. And often so deeply embedded in us and our way of thinking and being, that we are not even aware of them.

Yet job losses, salary reductions, redundancy, divorce, surprise costs, inflation etc are a common part of living in today's world. At least some of those stressful events will happen to us at some point in our lives.

How many people do you know who have not lost a job, been made redundant, or had their salaries cut at some part of their working lives? This is especially true in the past two years when previously very secure jobs (think pilots) suddenly were the most insecure jobs in the market.

Businesses have months or years that boom and others that are slower. Sometimes we can predict that, but again, the last two years have taught us the hard way, some things are simply unpredictable!

As humans, we tend to focus more on the negatives than the positives. We remember the times when we didn’t have enough in much more detail than the times we were financially abundant, or our business was thriving. We worry about those harder times happening again. It’s those memories that drive stress, worry and scarcity mindsets.

This can often create or be born from a sense of lack, scarcity or trauma from childhood experiences. This applies to many aspects of our lives but I am talking about money here.

Of course, some people take the opposite stance and completely block out the tough times and focus only on the positive. And while I thrive to live my life focusing on the positives, and being grateful and appreciative for what I have, there are important lessons to be learned from the failures, difficulties and stressful times.

And then there are an endless number of ways to manage your money, to invest your money, how to budget, be thrifty, don’t be thrifty, treat yourself, don’t over indulge, be responsible and save as much as possible, you only live once so enjoy yourself, buy the fancy car you work hard, don’t waste money on a new car, always buy second hand, invest in property, don’t invest in property, invest in stocks, stocks are dead, invest in crypto, don’t touch crypto, NFTs are the way forward, put your money under your mattress. It’s enough to send even the most self-assured, level-headed person running straight for their nearest mall so they can get some stress relief (and unconsciously) and get rid of their money so they don’t have to worry about what is the best way to invest it!

Phew, I’m stressed after just writing that!

Let’s talk shoulds

So how do you relieve this? Firstly, I call all of these snippets of advice ‘shoulds’. You should buy crypto, you shouldn’t buy crypto, and so on. It’s confusing and contradictory and inherently unhelpful. They are simply ideas, opinions and options available to us. What is a should for one person is always going to be a should not for someone else. Learn to figure out which side you fall on and feel your overwhelm levels reduce.

Take the ideas, understand them and decide if it’s right for you. If not, wish the Jones' well with their investing endeavors and move on to what is right for you.

My one and only should

However, I do have one financial should! And that is everyone should have an Emergency Fund. I recommend it be the first thing everyone starts saving towards as soon as they start earning money.

What are the benefits of an Emergency Fund?

Financial Security

The sense of financial security a fully funded Emergency Fund generates is both practically and emotionally, a game-changer. It recession proofs us for a period of time. It means no matter what life throws at us, we can financially handle it. Let me give you a real-life example of this.

Everyone fears the phone call informing us a loved one has passed away.

Being an ex-pat, we have the extra consideration of getting home at short notice. Last-minute flights are no longer the deal opportunity they used to be. Booking the same day tends to be the most expensive option.

But what choice do we have at that moment? We will pay anything to get home to our loved ones.

And so back to my real-life example. I received that phone call, for the third time in my 12+ years as an ex-pat. I know the drill now and it doesn’t get easier. My number one priority is to get home.

Imagine if I had no savings. How would I pay for my flight? Most likely I would use a credit card. Or maybe as a friend or family member to lend the cost to me.

Credit cards are often used for emergencies, and they can be a great resource in a crisis. But the consequence is if you don’t have the cash to pay your balance when it comes due, that flight becomes even more expensive when you add on the interest charged on the non-payment.

And it’s not just about the money you could put to better use than paying interest. Its existence is hanging over you potentially for months as you work to pay it off. More stress.

This is where an Emergency Fund comes into its own. In January, when I received the dreaded call, I booked my flight on my credit card, knowing I could pay it off when the balance was due using funds from my Emergency Fund. No stress.

At that moment in time, when I was grieving for my relative, stressed about getting home in time for the funeral, leaving my children behind, worrying about my loved ones who were reveling in shock and grief, the ex-pat guilt of not being there weighing heavily on my shoulders and knowing my time at home would be limited as I would need to get back to my children in Dubai. The last thing I needed was to add to my already devastating situation by having to stress about the financial impact. I have never appreciated my emergency fund more.

When I got back to Dubai, I could focus on my grief and process what had happened. I could replenish my Emergency Fund over time. There was no credit card bill, minimum payments or ever-mounting expensive interest to worry about. I am grateful for the sense of security and ease my emergency fund gave in that moment.

Reduced Stress

I mentioned earlier that financial insecurity and worry is the number one cause of stress worldwide. And sadly the number one cause of divorce. When we are feeling financially insecure, it unnerves us in ways we rarely talk about or even are aware of.

How many decisions do you make every day without thinking about the financial impact of that decision? I suspect it’s very few. And when we are constantly, either consciously or unconsciously worrying about money, it impacts our ability to make healthy choices. Some will overspend while others will underspend. Some will blow all their money, because, well why not, I don’t have enough anyway! Others will not live. They will save every opportunity they can in the hope one day they will have the freedom to do all the things that would make them happy. But what if tomorrow doesn’t come? When will they ‘have enough’, When we approach life from a place of lack, there is never enough.

An Emergency Fund can alleviate a lot of this. Knowing you have a financial cushion immediately eases the worry of making a bad choice, or losing your job.

Every time a client either saves up or designates an emergency fund amount from their already existing savings fund, their whole perspective on their financial situation, sense of freedom, choices, and security shifts. Their shoulders loosen and they relax.

The sense of financial security of having money to support you should the worst happen is invaluable.

Why? Let’s go back to what money is? Money is energy. Similar to how food is an energy source to fuel our bodies. Money is an energy source to fuel our life choices, options and freedoms. When we know we have a designated amount of money, available to us at all times, an amount that we can use to deal with any surprises such as a loss of income, unexpected expenses like emergency medical care or car repair, that niggling worry that had previously been at the back of our minds melts away. Or at least quietens down.

And when it does raise its ugly head, we have a tool to quieten it. We think ‘nothing to worry about here, the money is in the bank’. And breathe.

Freedom of Choice

During one of my recent coaching sessions, my client told me how she is so grateful for her emergency fund. She always had the money. But she’d never separated an emergency fund from her general savings pot. Her 6 months of expenses made her feel secure so that’s what she set aside. She told me how she was told she was about to be made redundant. Yet she was smiling. Why? Because she felt financially secure. She no longer felt dependent on and tied to her job. She told me how previous to our work together this news would have sent her into a spiral of panic and depression and she would have jumped at the first job she came across in order to secure an income. Now, however, she is calm. She is considering her next career move. With glee, she told me she is even considering a 3-month career break! All because she got clarity on her financial situation and set aside an emergency fund. She felt secure, calm and free to make choices on her terms. It gave her the power and confidence to live her life on her terms.

Prevents you from falling into a paycheque to paycheque cycle

Sunk funds are the best protector against this extremely stressful situation but Emergency Funds have their part to play too. Having a fund you can dip into when large unforeseen events happen, means you don’t rely on your income that month or your credit card to pay for those unforeseen expenses. So you don't get into the paycheque to paycheque cycle of paying last months costs this with months income and feeling like your money isn't your own.

How much should your Emergency Fund be?

I talk a lot about financial clarity. First, get that! In short, calculate your monthly cost of living. How much do you spend every month? Take this number and multiply it by 3 and 6. This tells you what your three-month and 6 months emergency savings would look like.

Experts say at least 3 months is sufficient. But I suggest looking at the numbers and sensing how it feels to you? How does your body react to having that amount sitting in a bank account, there as your financial safety net? Does it make you feel secure? If yes, you have the right number. If not, then maybe 6 months is a better option for you.

Think about your lifestyle and responsibilities. Are you a person with no financial dependents, and if you lose your job and can’t replace it, you would move home to live with your parents? If yes, then possibly 3 months is more than enough to tide you over while you sort your job situation. If you are more like me, then your emergency fund may need to be more than 3 months. Why? I have 3 children in fee-paying schools, I have a mortgage, dependents and responsibilities that I would like to maintain while I figure out my income situation. Financial stability and security are extremely important to me and I know if I felt insecure, it would negatively affect my daily decisions, in my business and personal life. So I always have at least 6 months in my Emergency Fund.

Why is it important to get the number right?

2 reasons;

  1. It needs to serve its purpose. It needs to not only make you feel secure but also be enough to cover any emergencies relevant to you and your life.

  2. It is sitting in a bank account losing value due to inflation. You don’t want to put too much in your emergency fund as it is better to put the excess money or savings you have to work. Invest your savings to generate wealth. This way you have your emergency fund for security, and your investments for wealth. What better way to use your savings than that?

Is it wise to invest your Emergency Fund?

It is not recommended that you invest your emergency fund. This is because, in order for it to serve its purpose, you need to know exactly how much you have (not at the mercy of fluctuating market prices) and need access to it in an emergency. Save your Emergency Fund in a savings account, ideally, one that pays at least some interest but the key consideration is it is accessible and stable. Interest would be great but in today's market, that’s very difficult to arrange.

Would you like a worksheet to help you calculate your emergency fund number? Click here and download your free worksheet today.


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