MONEY TALK: Are you ready for an emergency?

Last week, I was talking to a friend who asked me to help her with her finances. She had all these lofty plans and investment ideas. And while she had most of the aspects well-covered, there is one thing she had left out – an emergency fund.

Many people, myself included, have learnt the hard way about the importance of building an emergency fund. Yes, long-term investments are important, but we do need money that is easily accessible if something happened that required us to have a financial cushion.

If we do not prepare ourselves for emergencies, we can easily find ourselves going ten steps back in the event of a personal financial crisis.

WHY YOU NEED A FUND

 Let’s talk about why you need to start building that emergency fund now. The most common reason is that you could lose your source of income.

The fact is that people lose jobs and businesses go through challenging cycles financially. Most people depend on their income to meet living expenses and sustain their lifestyles, but what if you lost your job or business income today, what would you fall back on?

If the first thought that comes to mind is that your life would fall apart, then you need to start setting aside money for emergencies without delay. You typically need to have enough money to cater for at least three to six months of your basic expenses.

This should be one of your financial goals. If you don’t have any goals right now, start with that.

Please note that your emergency fund will not cover eating out at restaurants, entertainment or your monthly pay TV subscription. It should cater for just the bare necessities that you cannot live without.

This means that it should help you pay your rent/mortgage, buy food, pay school fees and cater for your basic bills. An emergency fund would also incorporate any standard monthly loan repayments you have to make, because even if you don’t have an income you are still obligated to service your loans.

It would be good to have several months where you know that your basic living expenses are met even without you having to sell your assets like land or liquidate your pension fund that is positioned for a more long-term benefit.

LUXURIES ARE NOT EMERGENCIES

Additionally, seeing a new car that you want to buy immediately or waking up one morning and deciding that your living room needs a makeover, is not an emergency.

Do not make the mistake of using your emergency money to pay for luxuries. Do not even tell yourself that you will ‘borrow’ that money from your emergency fund for instant gratification and return it later. Instead, save for these things separately until you get enough money to pay for them.

You don’t just need an emergency fund to cater for your personal expenses, you also need one for your business. So if you are planning to leave your job to start a business, have this fund in place before you quit.

No matter how good your business idea is, it will probably take some time to pick up. Having some emergency money set aside will help you survive even as you give your business time to grow.

On the same note, even when your business stands on its feet, you still need an emergency fund because as most business owners know, businesses sometimes go through seasons of low or no income.

For that reason, the business itself needs its own emergency fund, separate from the one you have for personal use, to cater for its recurrent expenses when the going gets tough.

Apart from loss of income, the other reason why you need an emergency fund is to cushion you from the effects of unpredictable disasters. While they are unpredictable, disasters shouldn’t come as a surprise to you; you should have some money just to cater for such occurrences.

The roof of your house may collapse after heavy rains and you need to fix it. You may be involved in an accident and have to repair your car or someone else’s car.

Your child may drop the TV in a shop and break it and you are forced to pay for it. You or one of your loved ones may have urgent medical expenses that need to be catered for… the list is endless but you need money to take care of them.

Fine, you could say that you own large parcels of land that you could sell, but you need to remember that in an emergency, you need money right now, and not in a month’s time when the property sale is concluded. You also don’t want to be in a situation where you are forced to dispose your assets because you are likely to sell them at a throw-away price just to get money quickly.

So how do you go about planning financially for emergencies? Well, you can plan for some of these emergency situations by taking out insurance. For some situations, you are better off getting insurance than putting aside money somewhere for your emergencies.

Picture this, you could have put aside Sh300, 000 for a medical emergency, but when it does happen, you realise that you need one million shillings and you discover rather late that what you needed was insurance and not a bank account with a limited amount of money.

So to prepare for emergencies, think about all the areas in your life that need protection and take out insurance for them.

The rest can be taken care of by money put in an easily accessible account.

THE BENEFITS

Once you set up your emergency fund, you will reap many benefits. For one, you will break the cycle of taking out loans to cater for emergencies. These kind of loans sink you farther down financially.

There is some peace of mind in knowing that even in your worst-case scenario, you can survive for a couple of months without a job or an income. I have met people who were able to take certain risks in life because they knew they were financially covered.

Some people are able to take sabbaticals to re-evaluate what they want to do with their lives just because they have a financial cushion. Others are able to take the leap and start a business because they know that even without a job, their basics will be taken care of for some time. Apart from having peace of mind, having emergency money will put you in a position to seize sudden opportunity easily.

If there is a fantastic investment that you believe in, you can use your emergency fund money to pay for it and then immediately work on rebuilding the fund.

Lastly, I may not have mentioned all the scenarios that would require you to have an emergency fund, but you know the personal situations that you need to plan for. Whichever way you do plan, it is better to be safe than sorry.