Emergency Funds Become Critical During Volatile Years

Wednesday, 06 May 2009

Emergency funds are needed to meet unexpected expenses that are not planned for in the family budget, such as short-term illness causing a loss of income, unexpected medical expenses, property losses that purposely are not covered by insurance (deductibles and co-insurance) and to provide a financial cushion against such personal problems as prolonged unemployment or some other financial crisis.

The need for emergency funds have received greater attention in recent years. Many capable people have lost their jobs because of mergers and acquisitions, economic dislocations or plant closings. A reasonable emergency fund can help to prevent a temporary unemployment from becoming a personal financial crisis. The fund will give the family time to adjust without having to drastically change its living standards or disturb other investments.

The size of the needed emergency funds varies greatly. It depends upon such factors as family income, number of income earners, stability of employment, assets and debts. The size of insurance deductibles, health and property insurance exposures and the family’s general attitudes toward risk and security are also important.

The size of the emergency funds can be expressed as so many months of family income. As a guideline, it is advisable to reserve a minimum of two months and up to a year or more (current economic conditions, industry outlook, and other external factors may necessitate more caution). A good practice is to do the "sleep test" on it. Estimate an amount, sleep on it, and then see if you are still comfortable with it in the morning. The larger the percentage of your monthly expenses that are fixed and must be paid, the larger should be the emergency fund.

By its very nature, the emergency fund should be invested conservatively. There should be almost complete security of principal, marketability and liquidity. Within these investment constraints, the fund should be invested so as to secure a reasonable yield, given the primary investment objective of safety of principal. Logical investment outlets for the emergency fund would include:

Bank savings accounts (regular accounts)
Credit Union accounts
Money market accounts
Life insurance cash values

Access to emergency funds is important. If check-writing services are available, even at a fee, it might be wise to arrange for them. The careful person may also want to have some ready cash available for emergencies, even if it is non-interest earning. Such an individual might consider setting aside $200 in cash at home to be used ONLY in case of dire emergency.

Brock and Associates, LLC is a fee based financial planning firm. For more articles on financial planning, retirement, estate, and tax planning, be sure to explore our website.

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