Personal Finance Back to Basics: A Healthy Emergency Fund (Part 2)

« Read the previous post for context

Our first priority is to build our emergency fund. An emergency fund is essentially 3-6 months’ worth of your living expenses, stored in a highly liquid place, like a bank savings account.

For my family, we aim for 6 months where half is in a liquid savings account and the other half in a conservative short-term (<3 month) fund. The idea is that we should be able to liquidate the short-term fund before the savings account runs out. An example of a short-term fund is the money market, but I’m not yet sure if this is recommended in Singapore. This is something that I will have to look at after we finish saving the 1st 3 months.

Why have an emergency fund?

As the name “emergency” fund states, this is a bucket of savings that should only be used in the event of an emergency. An “emergency” is when you experience an unplanned and temporary loss of income. This could be due to various reasons such as health, family emergency, unemployment, etc.

For example, my personal emergency scenario is if:

• I lose my job (as the breadwinner of the family)
• I suddenly require a leave of absence more than my # of leaves (such as a prolonged medical condition)

It is important to note that the following scenarios are not emergencies:

• The release of a new Samsung or iPhone (Note 10 and iPhone 11 just came out recently)
• A massive sale discount (Great Singapore Sale, IT show, Steam sale, etc.)
• FOMO situations (family/friends traveling overseas)

Also, notice that I didn’t mention death or critical-illness situations. These types of emergencies should have a special plan, and that is by leveraging on life/health insurance plans.

Why save 3-6 months?

The idea is to have ample time to find a new source of income in case you lose your current one. Even if you think that you have a stable job, it is always better to have a plan just in case.

One benefit of having a 3-6 month emergency fund is to have breathing room. I would prefer having the freedom to take my time in looking for a new source of income if I need to. I don’t want to be pressured to accept the first offer that I get. I’d want to be in the right state of mind and have the freedom to negotiate. This is only possible with an adequate amount of emergency funds. With it, we are one step closer to financial peace.

Go to the ant, O sluggard; consider her ways, and be wise.
Without having any chief, officer, or ruler,
she prepares her bread in summer and gathers her food in harvest. ~ Proverbs 6:6-8 ESV

Warning: While having an adequate emergency fund will increase your sense of security and financial peace, be careful not to trust in it and be arrogant. Here are some verses that warn us against trusting in riches.

Why based on your current living standard?

Some of the people I spoke with planned for “skinny” living in the event of an emergency. This means that if they lose their income (temporarily), there will be no eating at restaurants, no shopping, and no of watching movies for the time being. While this may work, I personally prefer to have the option to live as-is if such a situation arises. I’m don’t know about you, but I know that it will have at least some effect on my mental and emotional well-being.

• I will feel bad if I see something that we could normally afford to pay for and not do so.
• I will feel worse if I see my family having to eat less than what they’re used to.
• This will likely cause me to not be in the right state of mind as I hunt for a new source of income.

Note: I am doing great in my career, by the way. I just understand that my employer isn’t the one responsible for providing for my family and I should prepare for these scenarios no matter how unlikely they may seem.

Having a sufficient emergency fund will help eliminate worry. I’d rather not be calculative over every little expense. Instead, I’d rather be able to stay cheerful even without a job since I know that my family can live comfortably as if there isn’t much that changed (i.e. the same quality and quantity of food, the same frequency of malling, etc.).

How much is “living standard per month” exactly?

For this, you’ll need to keep track of your daily expenses. This advice may sound simple but it does take some getting used to. I highly recommend that you keep track of your daily expenses so that you’ll know and understand your standard of living.

• How much do you need to sustain your lifestyle every month?
• What is your savings ratio (monthly savings / monthly income)?

As an additional benefit, keeping track of your expenses will enable you (and your financial advisers) to forecast how much time you’ll need to build your emergency fund, and how much extra you can invest to reach your financial goals.

For example, our family’s expense tracking for the past 2 months showed me that we are spending around 90% of our primary source of income per month. This tells us a few things:

• 90% expense ratio = 10% savings ratio
• 9 months (90%/10%) are needed to save 1 month of emergency fund based on our standard of living
• 27-54 months are needed to save 3-6 months of emergency fund

This revelation motivates my family to live on less and try to reach at least a 30% savings ratio. With 30%, we’ll only need 9-18 months to complete our emergency fund.

Note: The recommended savings ratio will depend on who you ask. I’ve met financial advisors who recommended a minimum of 10%. In the US, I think the recommendation is 20%. But if I ask the old-Chinese from my country, they will tell me as much as you can! So as a Filipino-Chinese myself, I’m more comfortable to live on far less and have a savings ratio of 30-70%.

How to track your daily expenses?

If you’re already disciplined in tracking your daily expenses, feel free to proceed to the next post. If not, here are 3 options to start doing so:

Option 1: Keep a Diary

This is an old-fashioned method, but I feel the need to share this in honor of my mom. She taught me to write my daily expenses in a diary since I was 10, this discipline allowed me to have >10% savings per month since I started working and have zero debt. I will be forever grateful for this wonderful life discipline.

*photo of our old diaries: the left one was my mom’s and the right ones were mine.

Option 2: Use an Expense Tracking App

The fastest way to start tracking is to use one of the many available apps today. Personally, we use HomeBudget because of its multi-device & platform sync feature. Since I use an Android phone and my wife uses an iOS, we can both track our expenses in the same family account and have the entries synched. But this will cost money, so try out the free ones first to get you started.

Option 3: Use a Spreadsheet

While apps are great, it does have a learning curve. In using apps, you’ll need to know how to create “accounts” and “expense categories.” So if this is too complicated, simply use a spreadsheet.

When I started working, I didn’t use a mobile app (mainly because there were no smartphones back then!). I just used a spreadsheet with at least 3 columns: Date, Amount, and Category of the Expense. This should be more than enough to get you started. If this is your preferred method, you do have the option to still install MS Excel on your phone in order to record expenses on-the-go.

Just Do It!

The point is, find a way that works best for you and just do it. Keep track of your expenses daily. Do it diligently for a minimum of 2 months and then decide if you want to keep doing it. This will show you your standard of living and will help you as you create your financial plan.

What’s next?

In the next post, I will share our current, more immediate, financial goals. I say “current” because we are still in the process of completing our emergency fund.