woman throwing money in the air because she has an emergency fund.
Entrepreneurship

Everyone Needs an Emergency Fund

July 22, 2023 / 266 Comments

You may have heard of emergency funds before, especially if you are interested in improving your personal finances. But there is a difference between knowing that an emergency fund is a good idea and actually finding the time and money to create one. The thing is, emergency funds are important for everyone, regardless of your financial situation. In fact, they most benefit those who don’t have financial safety nets because an emergency fund is a financial safety net.

What Is an Emergency Fund?

An emergency fund is a savings account where you put money aside in case of an emergency. It is a safety net that prevents unexpected costs from derailing your plans. Emergency funds give you financial security and stop you from living pay check to pay check. When you have an unexpected expense, you can pay for it using your emergency fund rather than having to go into debt to cover it.

Your emergency fund should be in a separate account to prevent you from accidentally spending it. Keep it separate from your short-term and long-time savings accounts so you only dip into your emergency fund to cover emergencies.

Why You Need an Emergency Fund

There are many benefits to having an emergency fund, whether that be financial security, a buffer for unexpected expenses, a way to avoid debt, or a safety net if you lose your source of income. Here are some of the main reasons why you need an emergency fund.

Benefit of an Emergency Fund #1: Financial Security

Financial security has a huge impact on your life. A healthy emergency fund means that you have the finances to exit any bad situation you face. That could be:

  • An abusive relationship
  • A toxic workplace
  • An unhealthy home life
  • Sketchy accommodation

Money truly gives you power because you are not trapped in situations due to financial reasons. You can walk away from almost anything because you don’t need to stay because of the money. This was highlighted in a 2016 article by Paulette Perhach that shared the importance of a “fuck off fund” for young women. A well-stocked emergency fund can buy you time in a hotel while you reconsider options during a breakup. It could also allow you to walk away from a job that goes against your values.

As a freelancer or business owner, an emergency fund is a lifeline. It gives you room to experiment and get things wrong. You won’t be forced to go back to the world of 9-5 to pay your bills the minute you have a bad month. Ideally, you should have an emergency fund for both your personal finances and business finances.

Emergency funds for business owners give financial security in worse-case scenarios.

Benefit of an Emergency Fund #2: Money for Unexpected Expenses

Unexpected expenses happen often. Your car breaks down, you need to travel unexpectedly to visit sick family, or your pet needs to visit the vet. Your emergency fund is there so that you can pay for those unexpected expenses without going into debt. You can still reach for your credit card (get those points), but you don’t have to pay interest on your unexpected expenses thanks to your emergency fund.

As a business owner, unexpected expenses are common – especially in the first few years of starting a business. You’ll miscalculate your personal taxes, incorrectly anticipate the profit you can draw, and have to take time off when you’re sick. When you have a personal emergency fund, these unexpected expenses are not financial disasters. They are simply annoying blips on the radar.

Benefit of Having an Emergency Fund #3: Safety Net for Lost Income

This is the most important benefit of having an emergency fund for business owners. The only thing that is guaranteed in the world of business is that things change. They change often. They change fast. Having an emergency fund means that a supplier going out of business, changing trends, or a worldwide socioeconomic event (*cough, 2020, *cough) won’t leave you homeless. You have 6-12 months to evaluate your circumstances and pivot.

That financial safety net takes a lot of stress out of running your own business. You can still maintain your lifestyle (or make minor lifestyle changes to stretch your emergency fund) while you create a plan. You don’t have to worry about putting financial stress on the other people in your household or making huge sacrifices in the meantime.

What Does an Emergency Fund Cover?

It is up to you to decide what counts as an emergency when creating your emergency fund. In general, emergency funds should be for unexpected costs for necessary items. That could include:

  • Healthcare
  • Unexpected lost income
  • Car repairs
  • Buying clothes and toiletries if your luggage gets lost
  • Paying for a hotel room if you unexpectedly have nowhere to stay
  • Taxi or Uber fare to get out of a dodgy situation
  • Travel home if family unexpectedly fall ill

Your emergency fund isn’t there as extra savings for a holiday or to cover spur of the moment purchases. It is your financial safety net. When you do need to spend money from your emergency fund, your goal should be to build your emergency fund up again as soon as possible. That way you are prepared for the next emergency. Dipping into your emergency fund or treating it like a second savings account means that you may not have the money you need when an emergency happens.

How Much Should You Save for an Emergency Fund?

Every little bit of money in your emergency fund is money that can reduce the impact of an emergency. Even £200 will help you to sleep better at night.

That being said, the goal is to build an emergency fund for bigger emergencies like job loss or emergency plane tickets home. The end goal is to have an emergency fund that can cover all expenses for 6 – 12 months. This gives you a financial buffer of at least 6 months to deal with whatever emergency arises.

To find your emergency fund goal, go through your bank statements and calculate your monthly expenses. Don’t forget to factor in annual subscription fees and debt repayments if you have them. They will still need to be paid off.

You can build your emergency fund slowly. Saving even £100 or £200 each month will help you to build a sizeable emergency fund by the end of the year. You can set a number depending on your means and your needs. Someone with a chronic health condition or ageing parents, for example, may want to develop their emergency fund quickly. Find the ideal speed for you.

How to Start an Emergency Fund

You can start an emergency fund today. The first step in starting an emergency fund is to open a separate account for your emergency fund. This account should be easy enough to access in an emergency but not so easy that you’ll accidentally spend the money. The account should either not have a card connected to it, or the card should be left in a safe place at home. Bonus tip: look to see if any banks have a bonus for opening an account or switching. That bonus can be your first deposit in your emergency fund.

Set up a direct debit that automatically deposits a set amount into your emergency fund every month on payday. It is a lot easier to save little by little rather than living like a hermit for a year in order to save for your emergency fund. You can always transfer leftover money from parts of your budget or money saved from challenges to your emergency fund as bonus savings.

Some people like to save aggressively for the first few months; some people like to save little by little so they don’t have to overhaul their lifestyle, even for a short period of time. Find what works best for you. The noblest plan is no good if you can’t stick to it. If you are planning to live frugally to save more for your emergency fund, have a short timeframe from the very start. It is hard to maintain frugality for a long period of time, especially if that frugality means sacrifices to your social life.

Continue to save money towards your emergency fund. You can gamify it if you need to by making a chart to track your progress. Once you have reached your emergency fund goal (between 6 and 12 months of expenses), then you can stop adding to your emergency fund if you wish. Some people like to continue to build their emergency fund so that they are covered for 12+ months of expenses. Some people like to allocate their payday direct debits to other things. For example, they may decide to pay down debt or put that money towards another savings goal like a holiday or a house fund. The choice is yours once you have that emergency fund.

Find extra money for your emergency fund by either increasing your income, reducing your expenses, or both!

Ideas for Building an Emergency Fund

There are two ways to find extra money for your emergency fund. The first is to increase your income. The second is to reduce your expenses.

Increase Your Income to Build Your Emergency Fund

Increasing your income or finding another income source can help you to save for your emergency fund faster. Many people start side hustles for this very reason. Here are some other income sources to consider:

  • Dog walking
  • Weekend or weeknight work like in a bar or cafe
  • Freelancing
  • Creating digital downloads
  • Selling handmade creations on Etsy

Decrease Your Expenses to Build Your Emergency Fund

You can also add in extra savings that you make to top up your emergency fund, like your tax refund or money you save from not buying coffee for a month. A great way to do this is to set monthly challenges like packing your lunch every day or giving up happy hour for a month. Then, transfer the savings to your emergency fund. When you do this, it becomes a fun challenge rather than having to suffer without takeaway coffee for years. You can even get friends and family involved in the challenges if you wish.

One of my favourite challenges to do in my early 20s was to set myself a weekly budget and withdraw that money in cash every week. That amount in my wallet was the only amount I was allowed to spend for that week. I set the amount to cover a basic grocery shop and a little extra for a dinner out or a drink or two with friends. For a whole month, I could only spend the amount of my weekly budget. Paying in cash made it easier to see how much money I had left compared to paying blindly with a card. I saved a lot of money in the months I did this. A friend preferred to do this for a week every month rather than for a whole month and still saved a lot of money.

Should I Have an Emergency Fund Before I Start My Business?

Ideally, yes. Before you start a business, you should have an emergency fund. The amount your emergency fund needs to cover depends on how you plan to start your business. If you plan to quit your job to start your business, you need to have an emergency fund that covers at least 12 months of your expenses. Ideally, you would also have savings put aside to cover your “wages” for the first few months in business. There is a huge learning curve to start a business, and it is rare for businesses to be profitable in the first year, let alone the first few months.

If you want to avoid having huge amounts of money put aside in order to start a business, you can start your business as a side hustle. This is where you start your business on a part-time basis while still working a job that covers your lifestyle. That may mean starting your business in a more pared-down form at first while you build your client list and learn what it takes to run a successful business. Starting your business in a digital form is often the most popular option for side hustles, as it gives the business owner a lot of flexibility.

You will still need an emergency fund. Everyone should have an emergency fund so that unexpected costs aren’t financial disasters. However, you can start a side hustle with a normal 6-12 month personal emergency fund. As your side hustle earns money, put some of that profit aside for an emergency fund for your business. This can be used to cover any unexpected issues that arise or any tax miscalculations. There is a lot to learn when you start your first business, so having an emergency fund gives you peace of mind.

Start Your Emergency Fund

When you first start saving for an emergency fund, the goal is to build it as fast as possible. Once you have a month’s worth of expenses saved, then you can relax a little. That way, you only have to live frugally for a short period of time. What are you waiting for? Go and start that emergency fund!

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