At MintGenie, we go a step further in making sure all your personal finance related questions are answered. You have a question, we get it answered. In this series, we take up a question related to your money and ask three financial advisors to give their views. You get three detailed views to help you make an informed choice.
Q: As a newbie to investment, how do I go about setting up an emergency fund? How do I rationalise between dividing money for investments and emergency fund? How long should I take to accumulate money in this emergency fund? Is there a specific bank I should look at to park this money? Can credit cards be part of emergency funds?
Renu Maheshwari, CEO and principal advisor, Finscholarz Wealth Managers, says:
“How much money one should invest in an emergency fund depends on the monthly expenses and the nature of job. If you have a low regular income, then you need a large emergency fund. Conversely, if you have a good regular income then you need less emergency fund. The smallest emergency fund could cover your three months of expenses, including EMIs. If you have young children or other dependents then you could include some medical cost as part of your emergency fund too.”
About choosing between emergency fund and investment, she says: “This is the first thing to create before you start making an investment. After all, investments take time to mature. This would help you keep your investment intact and prevent you from falling into a debt trap.”
“You can choose only savings account and fixed deposits for emergency fund. The fund should be 100 percent secure, safe and liquid.”
She cautions investors against relying on a credit card during emergency. “One should not depend on a credit card for emergency use. When you borrow money via card, you are supposed to repay in 45 days. How will you pay – sell an investment or borrow again?” she says.
Ankur Kapur, Founder of Plutus Capital, says:
"When you start planning for your finances, your first goal should be creating an emergency fund. The importance of the emergency fund was displayed in 2020 when many people lost jobs and had to dip into their emergency fund. One year's living expense should be in the emergency fund if you are in service. And if you are in your own work, living expenses of two years must be maintained. These funds can be parked in a liquid fund or a bank’s fixed deposit. The purpose is safety and not growth, so the investment mode must be only in safe assets. If the investor is just starting, investment goals should be secondary, and the focus should be first on building an emergency fund. "
Sarthak Garg, Founder of Newsnest, says:
Set aside a particular amount every month in a bank account. Soon it will grow into a considerable corpus that you wish to have. Say, you have decided to have an emergency fund of Rs1 lakh. In this case, you can set aside ₹5,000 or ₹10,000 every month to accumulate the corpus you need.
Depending on income and expenses, an emergency fund can be three to six months of your monthly income. For example, if you earn Rs.50,000 a month and Rs.25,000 of that goes in meeting your routine living expenses, then your emergency fund should be somewhere in the range of Rs.100,000 to Rs.1,50,000.
Emergency funds differs basically they can used for sudden health issues even sometimes during unemployment.
Once you have accumulated the emergency fund, you shouldn’t leave it in cash or the bank account, at least not entirely. Though an emergency fund should be liquid, it is not something you can access often. By not compromising with liquidity it should earn a decent returns somewhere around inflation rate. Ideal strategy to do would be to spread the emergency fund across liquid funds, short-term RDs and debt mutual funds.
For a newbie like a college student or even a fresher with a new job he/she can start saving some part of their pocket monies and latter with salary in the ratio of 40:35:25.
Adhil Shetty, CEO, BankBazaar, says:
These are very good questions. Your emergency fund is essentially your backup plan in case of a financial crisis. While investments are essential, they also tend to be long-term and goal-based. If you keep dipping into your investment any time you have a financial crisis, your investment will be depleted. So, you need an emergency fund separate from your investments. Similarly, your credit cards are your first line of credit. If you do not have any other funds, then you will end up in debt the first time you hit a financial crunch. Also, the credit card limit may prove insufficient for your requirements. So you need to have a corpus in addition to it.
Typically, the emergency fund amounts to 6 months’ income. At the very least, it has to be worth 3 months’ income. You can create this by depositing a fixed amount every month from your salary into a recurring deposit. You can opt for any scheduled commercial bank for this. Remember, in case of an emergency fund, liquidity and capital protection are more important than returns. So select an investment vehicle that gives you both. For instance, you can split your emergency fund into 6 FDs and then ladder your FDs such that you have liquidity every month. This will give you the best of both worlds.
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