What is Emergency Fund? Do I Really Need It?

Did you remember how you were feeling the first time you heard the term “emergency fund”? I sort of do.

I did not remember when it was, but I vividly remembered how I feel.

I was reading blog articles from finance bloggers that suggest everyone should have at least 6 months of emergency fund! I was like, “What?!”

That time, I was still working in my first job after college. With my meager salary, I could only save 35% of my monthly salary on average. In other words, I’m basically spending 65% of my monthly salary.

That means, I need 2 months’ salary to save for 1 month of my expense. Hence, I need 1 year to save for my emergency fund. That’s crazy!

“It’s impossible,” I told myself. “I need to buy that DSLR camera for my trip to Hong Kong. And I want to go on those vacations with my friend. I don’t want to be a dull girl who doesn’t have fun. I need a work-life balance. I need to have fun!”

I came up with a million of excuses not to have an emergency fund. I couldn’t think of any scenario where I’d need an emergency fund…

…until one day when I decided that I didn’t want to work at my current job for the next 40 years. I declared to myself: I want to find my passion! I want to find a job that’s not confined to a cubicle for 45 hours a week.

I gave myself a timeline of 6 months to make my “passion” work. During those 6 months, I planned to jump headfirst into a sales job that doesn’t pay monthly salary; it pays only commission.

So I needed an emergency fund to cover my expenses when I was learning the rope. That’s when I understood the purpose of an emergency fund!

What is an Emergency Fund?

Emergency fund is a pot of money that you can’t touch unless your life depends on it. This money can only be used in the event of emergency, such as:

  • when you lose your job unexpectedly
  • when you or your family members or your pets get into medical emergency (it’s more common than you think!)
  • when your house need unexpected repair (think: plumbing issue, appliances issue, or worst case, fire)
  • if you’re self-employed or a business owner: when there’s a fundamental change in your industry or when you lose out to competitors

In my case, switching a career is not exactly an unexpected emergency. It is a planned emergency, but still an emergency nonetheless. Looking back, I think I was quite reckless to save only 6 months of expenses when switching career to a sales job. I assumed that if I didn’t survive the sales job after 6 months, I could find a new job in engineering. I assumed that I could always find a job, which is totally not true (especially during economic downturn).

If I were to switch career again to one with no fixed salary, I would save at least 1 year worth of my expenses.

Do I need emergency fund if I don’t plan on leaving my job?

Yes, you do. I believe everyone needs to have an emergency fund regardless of where they are in their lives. It is like a hedge to protect you when life throws you lemons.

Also, what you feel about your job is neither permanent nor reciprocal. What if next month you get so frustrated with office politics but you can’t quit because you don’t have enough emergency fund? What if, next month your company decides that they need to retrench people to streamline their company structure and your role is not going to stay?

Is emergency fund same as saving?

Well, not exactly. The way I treat emergency fund is like this. Emergency fund is used for emergency purpose only, I will not touch it if it’s not life-threatening.

Meanwhile, my saving is more like a warchest where the money inside of it is ready to be deployed for my aspiration (like to buy a house, buy stock/bond when the time is right, or for retirement).

How much emergency fund do I need to set aside?

The rule of thumb is to set 6 months worth of your expenses. But of course, the more you could save more, the more peace you’ll have.

However, for self-employed or business owners, it’s prudent that you save at least 12 months worth of your expenses. Because when something bad happens, the risk is higher for self-employed/business owners.

The next question is, what are considered expenses? Here are the major items that you should consider as expenses:

  • Shelter, including: rental (if applicable), utility bills, maintenance fee
  • Food. including: meals, drinks, groceries
  • Transportation, including: bus/mrt fees, cab, petrol
  • Loan, including: mortgage, car loan, student loan
  • Insurance, including: home insurance, car insurance, life insurance, medical insurance
  • Monthly recurring bills, including phone bills, subscription fees (netflix, spotify, gym membership,
  • Monthly investment, including: ETFs of Trusts/Funds that you buy monthly with Dollar Cost Averaging method
  • Family, including: parent allowance, child allowance
  • Tax, including; property tax, income tax (if you only pay once a year, take the total amount and divide by 12 to get the monthly tax amount)
  • Business expense (if any), including: labor, fixed cost, variable cost

But.. My expenses varies each month, how can I know how much my monthly expense is? Easy. if you haven’t started tracking your expenses, then do it now for the next 3 months. Then, take the average.

Should I include leisure/luxury spending? Ask yourself, if you lose your income, will you still spend for leisure/luxury? Most people won’t, so you can exclude that. But some people will, because they need to maintain their lifestyle for whatever reason; if this is you, then do include leisure expenses.

Where should I keep my emergency fund?

Not under your bed, in your wardrobe, life insurance, stocks, bonds, mutual funds, gold bars, foreign currency or even Singapore Savings Bonds.

Keep your emergency fund in a liquid bank saving account, which allows you to withdraw anytime you need it without any penalty. And don’t mix your emergency fund with your monthly budget. Ideally, open an account solely to keep the emergency fund.

Personally, I’m using CIMB StarSaver Account because it gave the highest interest rate when I signed up around 2010, and it doesn’t require me to spend anything or credit my salary in order to maintain that interest rate.

It may not be the best saving account in the market when you read this article, so if you’re looking for a high-interest saving account, do your research.

Some people prefer to keep emergency fund in the savings account that gives high interest rate but require them to jump many hoops (like credit salary to that account, spend with that bank’s credit card, take a loan, etc). I think that’s a good option only if you use this account solely for the purpose of emergency fund. So, once your salary comes, you immediately move that salary to a different account, hence you won’t accidentally spend your emergency saving.

Let me know in the comments if you have any thoughts!

Featured image by Michael Longmire on Unsplash

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