Sound financial planning includes provision of an emergency fund is to help tide over sudden needs without immediately straining your day-to-day finances. Investment earmarked as emergency or “rainy day” fund should be separated from your usual savings to protect it from sudden needs such as car repair or a costly medical bill.
The thumb rule for average investors is accumulating the equivalent of three to six months of expenses. Clear Tax suggests that those with irregular income streams and other extenuating circumstances should increase their buffer to cover 9-12 months of expenses.
Emergency fund: What is the 3-6-9 rule?
Experts suggest that investors aim to save at least three to six months’ worth of expenses of their monthly needs. The 3-6-9 rule prescribes saving as follows: Three months of expenses if you’re single, six months if you have dependents, and nine months if your income is irregular.
It is a general guideline, and the actual corpus may have to be adjusted based on your lifestyle and requirements.
Step 1: Calculate your emergency fund corpus
To do this, list out your non-negotiable monthly expenses — bills, grocery, EMIs, loans, insurance, school or medical fees, etc., for a given month. The resulting monthly total should be multiplied by 3x or 6x in increments to determine your savings goal.
Notably, if your income is irregular, increase your buffer corpus by multiplying your needs by 6x to 12x.
Step 2: Begin building your emergency fund
Start with a target for three months and build more as you reach your goal. For example, if your monthly expense is ₹25,000 for six months that works out to ₹1.5 lakh as emergency fund. This can be built in stages, starting from ₹500-1,000 each month, or even a little more or less depending on your ability.
It is advisable to take stock of your expenses every few months to keep a track of how much you are spending and if the fund total meets calculations. The key is to be consistent and habitual.
A quick tip is to automate deductions for fixed deposits or SIPs (your choice of investment for emergency fund) and ensure that extra income such as bonuses, tax refunds, or cash from side-hustles are deposited directly to the emergency fund till you hit your goal amount.
Step 3: How to invest for emergency fund?
Your emergency fund should have a minor barrier compared to your usual savings so that it’s not too easy to reach for daily use; but still be liquid enough to access when in immediate need.
According to a Clear Tax report, your emergency fund should be split into the following investments:
- Immediate Access: This should comprise between 30-40% of your emergency fund and be kept in immediate outreach options such as savings account or bank fixed deposits (FDs).
- Short-Term Buffer: This should comprise between 60-70% of your emergency fund and be invested in low-risk debt options like liquid or overnight mutual funds for better returns without sacrificing safety, it advised.
Ideally, when it comes to emergency or rainy-day fund, you should stay away from investing in volatile assets such as penny stocks or risky equities, which can fluctuate significantly in the short term. While they may be high risk-high return options, these are not suitable for emergency purpose.
Disclaimer: This story is for educational purposes only. The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before making any investment decisions.
