December 21, 2017 | By: Connie Cossio

How to Set Up An Emergency Fund: 5 Easy Steps

Emergency Fund

A recent poll conducted by The Canadian Press found that nearly half of all Canadians are living paycheque to paycheque. That means millions of families throughout the country are just days or weeks away from not being able to pay their bills should a disaster, such as losing a job or getting injured, strike. Setting up an emergency fund should be one of your top financial priorities in case you should find yourself in one of these unexpected situations.

Emergency funds are three to six months of expenses saved up in an account that's immediately accessible to you and your family. The idea is to have enough money available to pay for regular bills or emergency expenses, like needing to replace your furnace or unexpected dental work, without having to take out a loan. This may seem like a difficult task if you're living paycheque to paycheque, but there are five easy steps on how to save money that can make the process a lot easier.

Step 1: Start Saving Small

Just the idea of saving up six months' worth of expenses can be overwhelming. Instead of focusing on the big number, start making little changes that produce a small amount of savings each week. Even little things, like bringing your own coffee to work instead of buying one or making your own lunch, can add up to hundreds of dollars over the long term. You'll also want to start transferring any small amount of money you are saving into an account you don't typically use.

Step 2: Find High-Yield, Accessible Savings Instruments

When building an emergency fund, you want to put your money to work for you just like you would with retirement or other investment goals. Unfortunately, interest rates for normal savings accounts these days aren't very high, so looking around for other liquid accounts is to your advantage. Here are some options you might want to consider using:

  • Tax-Free Savings Account. Canadians 18 and older can earn interest on their savings, tax-free, and withdraw funds from these accounts at any time.

  • Guaranteed Investment Certificate (GIC). These certificates aren't immediately liquid, so putting all your savings in them is inadvisable. However, putting a part of your emergency fund here can significantly boost your yield.

One savings method you should never use is hiding cash under your mattress or another location. While this may feel safe, your cash isn't insured against theft, fire, or any other type of loss.

Step 3: Start Eliminating Debt

Debt, with the exception of your mortgage, is a parasite on your finances. The interest you pay on your outstanding accounts provides no value and reduces your ability to build savings or reach other financial goals. The faster you eliminate your debt, the easier it will be to save.

One of the best way to start this process is to consolidate your debt. By working with a non-profit credit counselling agency like Credit Canada, a certified credit counsellor will negotiate with your creditors to either stop or significantly reduce the interest on your debt. This creates some breathing room so you can actuallys start to pay down your debt, rather than just pay the interest. Our counsellors will also work out a repayment schedule that works with your budget and your monthly expenses, so all you have to worry about is making one single monthly payment, which then gets disbursed to all of your creditors. 

Step 4: Create a Budget and Follow It

Once you have the foundations set up for your emergency savings, it's crucial to create a detailed budget and follow it. Some of your items might be inflexible, such as your mortgage, but you might find a lot of wiggle room in other areas. Let's use a pretend take-home pay of $3,000 as an example of things you can do. You'll pay:

  • $1,200 a month for mortgage and associated fees
  • $200 for utilities, reduced from $300 by improving efficiency, turning off or unplugging unused appliances, etc.
  • $400 for food for family of four, reduced from $600 by eating out less
  • $400 for debt repayment, down from $600 by consolidating debt
  • $100 for entertainment, staying the same
  • $200 for retirement
  • $500 for emergency fund, up from $0 due to other reduced expenses

With an ideal emergency fund that covers six months' worth of expenses, or about $12,000, it would take about two years for you to build an emergency fund in this scenario (effectively saving up $3,000 per six month period). Once that savings is built, however, that budget item can go towards bigger retirement contributions, quality of life improvements, or any other financial goals you have. Imagine how much more surplus you'd have without having to make monthly debt payments as well!

Step 5: If You Need Help, Speak with a Financial Advisor

It's normal to struggle a bit when making big changes to your spending. There's no harm in seeking professional advice or financial resources and tools. An advisor or financial coach can help you to develop valuable budgeting and saving skills. They can give you a greater chance of successfully creating an emergency fund that will provide much needed peace of mind in your life.

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