What’s an emergency fund?
It’s money you set aside to pay for expenses or financial events you didn’t see coming such as:
- Car or home repairs
- Out-of-pocket health care costs for a family member or pet
- Ups and downs in your income or losing your job
- Having to lend money to a family member or friend
- Expenses related to having children and/or caring for aging parents
An emergency fund shouldn’t be used for occasional expenses that you can see coming such as a vacation, winter tires or school supplies. Those items should already be in your budget and saved for in another way.
An emergency or “rainy day” fund is something 26% of Canadians don’t have, but there are many reasons why it’s smart to save for the unexpected.
Advantages of having an emergency fund
It provides instant access to cash
In an emergency, you won’t have to scramble to find ways to pay for things..
It limits the need to borrow money
When the unexpected happens, you won’t have to increase your credit card debt, take out a loan, or add to your mortgage to pay for it. That can help your long-term ability to manage debt.
It can increase financial independence
An emergency fund can help you keep your head above water financially without relying on outside sources and remain in control of your decision making and spending.
It can help you save money
Setting cash aside for an emergency fund allows you to save more money by not having to pay back high-interest debt.
It can help you keep other financial goals on track
Having an emergency fund can mean you may not need to dip into your registered retirement savings plan (RRSP) or registered retirement income fund (RRIF) which can help keep your retirement savings and income goals on track.
It can provide a feeling of financial security
Wouldn’t it be wonderful to know you don’t have to stress about how to pay for something in an emergency?
How much you should save in your emergency fund
Here are 4 steps to saving the right amount:
Set achievable goals
How much you’ll need in your emergency fund will vary depending on your personal situation. Ideally, your emergency fund should cover at least 3 to 6 months of your regular expenses, or 3 to 6 months of income, whatever works best for you. More is always better.
To determine this amount, simply add up your regular monthly expenses and multiply them by between 3 to 6 to arrive at your emergency fund goal.
Then, figure out how you’re going to build your emergency fund. Can you cut costs somewhere or give up purchases such as coffee or lunch out to save more money each month? Start small with $10 or $20 a week or whatever you can afford.
Open a dedicated account
Place your emergency fund savings in a dedicated account so you’re not tempted by spend it. To maximize your interest, think about opening a high interest savings account.
Make regular contributions
There are lots of ways to add to your emergency fund on a regular basis.
- Automatically transfer funds from your regular chequing or savings account to your emergency fund account. If you do this on the days you get paid, you won’t even have a chance to miss the money.
- Create a savings reminder on your phone or computer, circle dates on your calendar or stick notes on a mirror or your refrigerator.
- Drop loose change into a jar or bowl and, as it fills up, put that money in your emergency fund.
- Sell something valuable to build your emergency fund.
- If you get windfall money from a gift, tax refund, pay raise or bonus from work, place some or all of that into your emergency fund.
Assess and adjust
Regularly review your financial goals and make changes when your situation changes:
- Save more or less to your emergency fund as your income goes up or down.
- Increase or decrease the amount you need in your emergency fund as your expenses rise or fall.
- Adjust your emergency fund contributions to account for inflation.