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Friday, July 8, 2011

Emergency (Safety) Savings Fund

Emergency (Safety) Savings Fund

Emergency savings fund
Emergency savings fund for others but for me, I would rather call it safety fund because it is more positive and considering the law of attraction! When you say Emergency, you may attract emergency scenarios, so I would rather call it as a safety saving fund. Starting a safety fund is one of the fundamental building blocks in building a personal finance foundation for yourself.

Many personal finance gurus agree that this is one of the first things you should do, before investing, buying cars, and houses or simply say, before you make fund other expenditure. 

It also ranks ahead of paying off high interest debt. It’s not a flashy topic, but smart personal finance has little to do with flash. This post will cover why you need safety savings, how much you need, and where to put it.

Why Save for Safety? 

There are a number of situations that arise in life that you simply do not have control over. Should these situations require immediate cash flow, it is essential to have safety savings to cover it. 

If you have a personal investing account or retirement account you could pull funds from these, but for a number of reasons including bad market timing like if your investments are in stocks and the market is down, early withdrawal penalties, or a delay in the liquidity of actually selling your investment and receiving your funds, this is the last thing you want to do.

Having money set aside for safeties or unforeseen events not only prevents this from happening, but also gives you the peace of mind that if something unfortunate was to happen that you will have a little financial cushioning to ride it out.

What Types of Situations May Require Safety Savings?

I’m sure that you have needed fast cash for a number of situations in your life, or seen situations where others have. Insurance may cover many of these scenarios for you, but there is always a chance that it won’t fully cover what you will need.

Here are a few examples:

*lost job or layoff (general rule is that you need a safety fund that can support you for 6 months)

*began a new job that required you to expense a geographic move
*auto accident, auto retirement, or major repair
*major home expense such as a broken water line, fire, natural disaster effects, etc.
*family health care
*unexpected taxes owed to BIR
*death in family that required you to help pay for funeral and other expenses
*unexpected medical expenses not fully covered by insurance 

How Much Should you Put in Safety Savings?

This is where the experts tend to differ. There are a wide range of guidelines out there for how much you should save. Pick one or a combination, but ultimately, you have to choose an amount that you’re comfortable with and that feels right for you. Here are some of the general guidelines out there:

*2-3 months worth of take home salary

*6 months worth of living expenses
*Start small and pay off debt before building 3 to 6 months worth of living expenses.
*8 months worth of living expenses. In the Laws of Money, the Lessons of Life, Suze Orman told readers that the 6 month time frame was no longer enough and that you should have “8 months of cash saved”.

I believe in a combination of the above, with a little twist. I think it is wise to start small and work your way up, I don’t think it’s realistic or wise to pay off ALL of your debt before saving more than P50,000.

Focus on paying off high interest debt like credit cards, but when it comes to school loans and mortgages, paying all of those off first before adding to your safety savings is not a good idea. Once you’ve paid off high interest debt, then shoot for a minimum of six months of expenses.

Here’s where the twist comes in – if you are anticipating a major life changing event coming up, add to your fund or simply another savings account. You do not want to be pulling from safety funds to pay off anticipated expenses. 

Where Should you Put your Emergency Savings?

You should be earning interest from your savings, otherwise, you are losing value due to the effects of inflation. Place your safety fund into a high interest savings account, checking account, or money market account (MMA). Stay away from Time Deposit because if you pull your money out prior to the TD expiring, you will lose interest in the form of a penalty.

Go with a bank that offers quick and easy access to your fund and a competitive rate. The 5 online banks with a wide variety of product offerings and the highest savings yields are usually Metrobank, BDO, BPI and PNB. Use this as a starting point to see what the current going rate is before committing. 

Check back periodically to see if you’re getting the best going rate. If you’re not, don’t be afraid to switch. If you haven’t already, start building your emergency savings. It will help you sleep better at night.

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