Financial Fitness Plan – Emergency Funds & Cash Reserves
Moving further through the Acuma financial fitness plan, this time I will focus on emergency funds and cash reserves. By way of brief recap, we have now considered how to manage debt and why a will and putting protection in place is crucial for your financial well-being.
Emergency funds – what do I mean by this? This is simply having a buffer of available cash so that in the event of being hit by an unexpected bill or cost, you have the cash available to pay for it. I am not referring to normal monthly expenses but something that is out of the ordinary, such as having to book a flight home, or an issue with your car, or maybe an issue at home. All things that you hadn’t normally budgeted for, and could upset your cash flow if you are not careful.
By having an emergency fund that is readily available, this means that you can cope with these unexpected surprises and deal with them without having to resort to borrowing money and potentially amplifying the issue with additional interest.
When I say readily available, by this I mean that the money is in a bank account that is immediately accessible, and can be accessed easily. Now this means that you need to show some level of restraint, as it can be easy to dip into this money for other purposes and find yourself short of funds at the worst possible moment.
How much should this amount be? I recommend between three to six months’ salary, so that it is enough to cover most eventualities, but not be so much that you feel like it is simply money sitting around. Indeed a question that is often asked is where should I put this money? Should I invest it? But the purpose of the emergency fund is to be immediately available and not be invested into anything that can fluctuate in value, as it generally the case that when you need the money most is the most inappropriate time to sell an asset.
Following on from the emergency fund is the cash reserve. These can be one and the same, but while it is best to have the emergency fund in a no notice type bank account where there is little or no interest paid, money above and beyond this can be placed into accounts that offer better interest rates. Generally in return for these increased returns there is often a notice period applied to these accounts, or they be for a fixed period of time, and if you need to break the term you will be penalised. This shouldn’t be an issue, as these funds should need to be called upon urgently, and so can be managed in a more structured way.
There is no guideline as to how much cash you should have in reserve, as it will be depend on an individual’s personal circumstances, what their longer term plans are, and indeed their attitude to risk. If the money is not needed for any particular purchase then other longer term strategies could be considered as a source for improved returns.
As with all investments, as the amounts involved grow, it is wise to consider diversifying where the money is held, and especially for expatriates, consider an offshore account, so that large amounts do not get caught up with any Sharia’h law issues should anything happen to the account holders.
As with most aspects of financial planning, the right emergency fund and cash reserve will depend on your personal circumstances. Next time I will look at savings and investments. If you have any queries please do not hesitate to contact me at email@example.com or on 0508543983.