You’ve probably heard it all before: “Save your money for a rainy day.” Of course, it’s not a rainy day you need to be concerned about, but a genuine emergency such as a job loss, illness, or any crisis that affects your finances.
After all, with more than half of Canadians living paycheque to paycheque, many of us are only one large unanticipated expense away from financial turmoil. That’s why emergency funds are so important.
An emergency fund is a separate cache of savings that can cover you during an emergency. It should be accessed only in desperate circumstances, such as:
Experts say you should have at least three to six months of living expenses saved as an emergency fund. Depending on your other debts and expenses, it can take a while to build that kind of nest egg. Don’t worry though, as long as you keep at it, stay patient and refuse to get discouraged, you will eventually get there.
Begin by figuring out how much you can afford to put aside per week from your monthly take-home income. There are many emergency fund calculators online that can help you determine the right amount for you. The most important thing is to start saving now if you haven’t already.
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Once you have an amount to shoot for and have made a commitment with yourself to get started, there are several ways you can accumulate the funds you need at a faster rate.
You should definitely keep your emergency fund separate from other savings so you aren’t tempted to spend it. At the same time, the money needs to be readily accessible, as the nature of an emergency means you’d need to make withdrawals at a moment’s notice.
As such, you should opt for a high-interest savings account or a Tax-Free Savings Account (TFSA). This way, you’ll earn some interest on your emergency fund while keeping your savings easily accessible, and with a TFSA you’ll also shelter those interest earnings from income tax, which means your emergency fund can grow even faster.
If you are looking for more growth, you can also invest your emergency fund into an interest-bearing investment, like a guaranteed investment certificate (GIC).
It’s best, however, to avoid higher-risk investments, such as stocks, ETFs, bonds or mutual funds, when it comes to emergency savings. That’s because emergency funds are short- to mid-term investments, and you won’t be able to weather the volatile swings of the stock market that you normally could when investing over a longer period of time.
Instead, your emergency fund should be accessible right away and your principal pot of money should always be intact. That’s why low-risk, low-growth investments are preferable to high-risk high-reward investments when it comes to an emergency fund.
Aaron Broverman has been a personal finance journalist for over a decade. His work has appeared on such outlets as Yahoo Finance Canada, Bankrate and Creditcards.com, Money Under 30, Wealth Rocket, CBC.ca and Greedyrates.ca. This former Toronto transplant via Vancouver now lives in Waterloo with his wife and son. When he’s not writing about your money and how to use it, you’ll find his nose in a comic book relating to the work life balance of Spider-Man and the clumsy brute strength of The Hulk.