An emergency fund is a financial buffer. It is a certain sum of money set aside to pay off unexpected expenses. An emergency fund will help you avoid taking a personal loan or racking up your credit card bill.
It is not necessary that the emergency fund has to be stored as cash at home. It can be in the savings account or a liquid mutual fund. Cash-at-home will lose value due to inflation. Moreover, money from the savings bank account or from a liquid mutual fund can be easily withdrawn whenever required.
Expenses That Justify Dipping Into Your Emergency Fund –
An emergency fund should not be used for planned purchases such as a house or car. Here are some situations where this money can be used –
Unexpected Medical Emergency
It is a tough situation when you fall seriously ill; meet with an accident, or are diagnosed with a life-threatening disease. It is equally difficult when a family member or someone dependent on you suffers a similar fate. It is physically, mentally and emotionally difficult. It is also a big strain on the finances as there are hospitalization bills, medicines to buy, multiple trips to the hospital, specialist advice etc. There are pre and post hospitalization expenses as well. In some cases, you might have to take a break from work ((more than the allotted leaves), which can lead to a double whammy – increased expenses and loss of pay
Insurance might be inadequate to cover the expenses. In such a case, you can use your emergency fund.
Once the medical ordeal is over, you can go back to building the emergency fund again.
Loss Of Income
Prakash was working in a successful e-commerce company. His company merged with another company and his team was suddenly not required. He was laid off with a compensation of 2 months. He was shocked, upset and angry.
Loss of income can happen in many ways – your business suffers losses, your skills become outdated or your company is mandated to layoff 1% of the staff and you fall in the unlucky 1%.
It leads to anger, grief, loss of self-confidence and many issues if not taken in the right stride. It also leads to monetary issues. You might be the only earning member of your family or you might have EMIs for loans to pay. Your finances can go for a toss. If you have an emergency fund, you can use it to cover your basic needs, pay your insurance premium etc. You can simultaneously work on getting a regular source of income.
Major Asset Repairs
It is quite possible that you encounter emergency home repairs. It could be due to unexpected heavy rains or water leakage in your building. It is obviously difficult to stay in such conditions and urgent repairs are required. Other assets such as your car might need maintenance and repair due to an accident or parts require urgent replacement The emergency fund will help you in times of such crisis.
It is good that family members help each other in times of unfortunate events. You might need to pitch in financially for relatives or close friends in paying off debts, taking care of education expenses, sharing medical expenses etc. Sometimes you and your family might have to travel urgently to faraway places for funerals. You can dip in your emergency funds in these unavoidable circumstances.
There are some other situations like paying off a personal loan or a credit card debt which if not taken care off can lead to financial losses. You may use money from the emergency fund to take care of such scenarios.
Here are some scenarios where you must NOT use your emergency fund –
- Unplanned and last minute vacations and holiday trips – Vacations should be planned and budgeted for. If you are going on a sudden trip, it should be funded from sources other than the emergency fund.
- Purchase of Gadgets and expensive items of personal use – Steven decided on a whim to buy an OLED TV as he wanted to see IPL 2019 on the big screen. Since he did not have enough money, he decided to take out some money from the emergency fund as it was not being used anyways. It will definitely be a great experience but funding it out of the emergency fund is not a good idea as you never know when you might need the emergency funds.
- Extravagant Weddings – A wedding is a special occasion but that does not mean you go overboard with the celebrations and functions. Dipping into the emergency fund to have a lavish sangeet or a designer wedding dress is a definite no-no.
It is useful to have an emergency fund. In case of unfortunate circumstances, you will have a sense of relief from a financial perspective as the monetary aspect will be taken care of.