What is an emergency fund – and why should you have one?

If 2020 and 2021 taught us anything, it’s to expect the unexpected. And that means being prepared. Unless you’re a psychic, you can’t predict with any degree of accuracy what may be heading your way in the next month, year or decade – and that’s why it’s important to have an emergency fund.

What’s an emergency fund?

An emergency fund (also known as a contingency fund or safety net) is a pot of money that you have specifically saved and set aside so that you have funds available for unplanned events or financial emergencies. These situations can be big or small and could range from car repairs to healthcare costs to unemployment. We say “pot of money” because an emergency fund is usually made up of cash, as it’s an easy asset to access at short notice. It takes a bit of work to access any equity you may have in property or other investments, for example.

How much should I have in my emergency fund?

The size of your emergency fund will depend on your own personal situation, and there’s no hard and fast rule for how much you need to have saved. You’ve likely heard that having enough to cover three months of expenses is a good region to be in – and if that’s achievable for you that’s great – but it’s completely up to you how big your contingency fund is.

A student living with their parents could only want their emergency fund to be big enough to cover any car breakdowns. Whereas a homeowner may want to have enough to be able to cover a few months of mortgage repayments and utility bills if they were to be out of work temporarily.  

Is an emergency fund different to my savings?

It doesn’t have to be and depends on you, your financial situation, and the type of saver you are. If you’re saving for something specific (or maybe even have several goals) you may want to keep your emergency fund separate so that if you need to dip into it, you don’t temporarily derail your other saving efforts.

Why do I need an emergency fund?

When something unplanned happens, the financial consequences can be significant – especially if you end up with some debt as a result. Without an emergency fund available, you may have to rely on credit cards or loans, and this debt can quickly spiral if you’re unable to make the repayments.

Financial hardship is something that almost everyone will experience to some extent at some time in their life. But, knowing that you have a safety net available can help make facing it a little easier and enable you to avoid the high interest rates usually associated with pay-day loans and credit cards.

How do I build an emergency fund?

Just like with any saving, there are different strategies you can use depending on what works best for you. In saying that, there are some key things to consider that will help you on your emergency fund building way.

Firstly, you’ll need to set a goal. Decide how much you want to have in your fund and think about a timeline to reach that total. Make sure your goal is realistic and your timeline is achievable as this will help you stay on track and keep motivated to save. Why not formalise your goal by using the mymo by P&N Bank app? It’s like a personal financial assistant in your pocket!

By setting a timeline, you’ll be able to plan for making regular contributions to the pot. You may find that setting up automatic transfers for a set amount works best for you, whereas you may prefer the flexibility of saving what you can, whenever you can. The most important thing to remember is that consistency is key.

You should also take advantage of the fact that savings accounts pay interest. Being a savvy saver means taking full advantage of this. Find a competitive rate, and if the account pays bonus interest each month when certain criteria have been met, aim to earn that bonus each month. Interested in interest? Both our Hi Saver and SwiftSaver accounts offer bonus interest.

On the flip side of this, if you’re a homeowner and have access to an offset account, you may want to keep your emergency fund in there instead. By doing so, your savings will be working hard reducing the amount of interest you’re charged which in the long run could help you pay your loan off sooner.

When saving money, it’s safe to say that every cent helps. Our Pay&Save option can help you take full advantage of this. Simply use Pay&Save to round up any purchases you make to the nearest one, five or ten dollars, and save without even thinking about it.

When should I use my emergency fund?

Everyone’s definition of what warrants an emergency is different but once you’ve reached your goal, you should define the parameters for yourself. Bear in mind that not every unexpected cost is an emergency, but if it needs to be paid quickly to avoid further problems, then you’re probably okay to use it.

Be strict with yourself and avoid dipping into your stash of cash unless you really need to. Remember, once you’ve had to use some of your emergency fund you’ll need to set about saving to replace it. This is a good time to set yourself a new goal and timeline and aim to grow your savings even more.