Emergency savings fund firewall
Peace-of-mind, last-resort protection
Unexpected events out of our control, such as job loss or health issues, can lead to serious disturbances in our financial situation. An emergency savings fund can mitigate some of the stress and bridge the financial gap until you get back on your feet.
Absent an emergency fund, any sudden financial shock could derail your financial plan, or put you into even more dire financial straits, reducing longer-term savings and investment returns.
A CIBC poll conducted by Harris/Decima reveals that 45% of Canadians do not have an emergency savings fund, and only 51% of Canadians between 18 and 44 have any emergency savings at all. According to an FP Canada survey, nearly two in five (37%) Canadians rarely or never put money aside in an emergency account at the end of each month.
Unfortunately, those without a financial backstop often turn to credit cards, personal loans, or increasing a mortgage to bridge the gap. But this can lead to a black hole of debt that can take much longer to pay off. Others may dip into retirement savings, such as RRSP or TFSAs, to cover these costs, but this has an obvious impact on retirement asset growth and accumulation.
Clearly, making a provision for emergencies is important.
How much do you need?
This depends on your personal situation. You may already have discretionary income left over each month. Or you might be spending everything you earn. Either way, putting aside more money each month can seem like an added burden you just don’t want to think about. But regularly setting aside even a small amount can help you build a substantial fund in time.
Generally, you should have enough to cover at least three to six months’ worth of essential living expenses. This boils down to a little budgeting. And it doesn’t take long.
First of all, estimate the cost of critical expenses each month, such as food, accommodation, healthcare, utilities, transportation, debt payment, and personal expenses. Eliminate non-essential discretionary spending (entertainment, eating out, impulse shopping) as well as earmarked saving for longer-term goals (education, car, retirement – these will be reinstated when you emerge from your financial difficulty).
Sometimes, you might need to plan for more than three to six months of expenses, for example when unemployment is higher during a recession or pandemic. You might also have to account for a longer period if you work in a seasonal industry where employment fluctuates or if you’re self-employed and your income is variable through the year. In addition, retirees without a private pension or with assets tied up in volatile investments like equities should consider an emergency fund to cover a longer period of essential expenses.
How to build emergency savings
Once you’ve established what you need to cover your time period, start your fund using these these key principles:
Set a regular savings goal. Whether it’s $15, $25 or $75 a week, stick with it. A goal is a great motivator.
Be consistent. Set aside that specific amount each payday. Use an automatic transfer plan. offered by most financial institutions, to move your contribution from chequing to savings.
Monitor your progress. As positive reinforcement, check your account statement monthly.
Increase contributions when you can. As your cash-flow changes, maintain your contribution at the same percentage, thus increasing your regular contribution amount. This will help you build you emergency fund even faster.
Use one-time opportunities, such as tax refunds, bonuses, or gifts to top up your emergency fund.
Where to put your emergency fund
Keep your emergency savings segregated. Avoid mingling the emergency fund with retirement savings or other investment accounts. This will help you avoid the temptation to “borrow” money from it “temporarily” for other uses.
An advisor can help you structure your emergency fund into your overall financial plan. For example, you might wish to keep your emergency fund in highly liquid assets in an accessible account instead of locking them up in, say, guaranteed investment certificates. Keeping the emergency fund in a high interest savings account is the easiest solution, but shop around for the best rates and terms. For example, use online services like www.ratehub.ca to do some comparison shopping.
For higher returns, other options might include money market mutual funds or segregated mutual funds linked to market performance, which come with a principal guarantee, but these can be eye-wateringly expensive. An online data resource like www.fundlibrary.com is an excellent way to comparison shop mutual funds and ETFs in such categories as Canadian Money Market funds and Canadian Short Term Fixed Income funds.
Note that there are typically costs involved with investment funds, including management fees as well as brokerage costs for ETFs. Accessing your funds will take a few days, as you have sell or redeem units in order to get your cash. In contrast, funds in a savings account are instantly accessible online, at a bank branch, or through an ATM.
Robyn Thompson, CFP, CIM, FCSI, is the founder of Castlemark Wealth Management, a boutique financial advisory firm specializing in wealth management for high net worth individuals and families. Contact her directly by phone at 416-828-7159, or by email at firstname.lastname@example.org for a confidential planning consultation.
Notes and Disclaimer
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The foregoing is for general information purposes only and is the opinion of the writer. Securities mentioned are illustrative only and carry risk of loss. No guarantee of investment performance is made or implied. It is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting or tax advice. Please contact the author to discuss your particular circumstances.