How to financially prepare your family for a rainy day
What if that rainy day you've been saving for turns out to be today? Whether your salary is $30,000 a year or $300,000, you should have an emergency fund - a stash of cash earmarked for major, unexpected household expenses such as a new roof or an income shortfall due to illness or job loss. Without one, you could be forced to take extreme financial steps to make ends meet. Fortunately, you can avoid doing so with a little financial planning forethought on how to budget.
Do the math
To be safe, an emergency fund should cover three to six months’ worth of expenses, without income. If you and your spouse both work and you have no dependents, you could aim for three. However, aim for six if your family relies on your income alone, you have dependents, or you have tuition, mortgage payments or other large, fixed monthly costs.
Make a list
Add up your monthly expenses. The obvious ones are food, rent or mortgage payments, utilities, telephone bills and car payments. But don’t forget the not-so-obvious ones: gas for the car, cable TV, your credit-card bills and other costs that may not necessarily leap to mind. Multiply that sum by the number of months you think you’ll likely go without income.
Make it happen
Your emergency fund should be held in a conservative, open investment, such as a savings account or a money market fund. You’re looking for stability and accessibility, not high returns. Keep in mind that a GIC is not an ideal emergency-fund vehicle.
To build your emergency fund, make regular payments into the account you choose, just as you do with your RRSP. No amount is too small. Be sure that you don’t substitute emergency fund payments for retirement savings investments — it would be in your best interest to do both. And remember, you’re never too old to start saving for a personal crisis. They aren’t age-specific.
Don’t touch your nest egg
In a pinch, cashing in your RRSP may seem logical (it is your money), but doing so may do more harm than good. For starters, you will lose the benefit of compounding — the ability of your principal and interest to grow exponentially. Also, when you pay the RRSP back, you replace pre-tax money with after-tax money — a losing proposition.
Setting up an emergency fund is among the simplest and most important ways you can financially protect yourself and your family. Should the day come when the pipes burst and your basement is flooded, or you get sick or laid off, an emergency fund could be your saving grace. So plan wisely. In a time of need, you’ll be glad you did.
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