Monday, 3 January 2011

The Money Makeover - Milestone 3: The Emergency Fund II

At this point, we are totally rocking and rolling with our makeover. We have got the fundamental tools in place (like the budget and emergency fund I), we are continually reviewing and cutting unnecessary expenses and we have cleared our debt.

So what’s the next step? Well, we need to get a safety net, a big safety net to offer us increased security and peace of mind. The Emergency Fund II.

What is the “Emergency Fund II”?

Like the emergency fund I, this is money in the bank “just in case”, but rather than act a a buffer against unexpected “casual” expenses, this exists to help shield us against something potentially far worse, unexpected job loss. Unfortunately (especially in recent times) this can happen, and when it does, it can hit hard and have a disastrous “rippling effect”.

In a nutshell, the fund:

  • .. is 1 years salary (gross).
  • .. is allocated meaning we do not touch it unless we absolutely have to.

So, take your salary (not your take-home). That’s what we are aiming for. Yes, it is scary isn’t it.

Why do I need this “emergency fund II”?

  • First and foremost, it is a big safety net. The last thing you want to worry about when unexpectedly losing your job (for whatever reason) is how to pay for things like groceries and other things you need.
  • Not to mention the stress saved when the situation occurs, it removes the stress of worrying about if the situation might occur. Less stress (anywhere) is good!
  • Keep in mind, we are saving a years salary gross of tax. This means that it will last at least a year without any loss of quality of life. Not to mention that if things did get “difficult” you could snap in to “survival mode” and stretch it out even more.
  • It’s your cash! Rather than paying in to some random insurance fund and letting have someone else do the same thing as you are (and taking a slice), it’s your cash in your bank and all the interest is yours.
  • On the “insurance” note – not only is it all yours, it’s accessible to you with no questions asked. Again, if you are going through the stress of worrying about income, the last thing you want to deal with is someone from an insurance company trying not to give you the cash you need.

So, it’s all about reducing stress and adding safety nets. All positive. Good stuff!

How the hell do I fill a fund that big?

Well, however many months ago when we started the makeover – how scary did all that debt look? The very same debt that we have cleared! At this point we have all the tools and discipline to make this fund a reality which is precisely why we are starting it now.

At this point, we have got pretty good at “finding cash” – we are able to strip back expenses and not have anything sneak up on us and blow a hole in our budget.

All that cash you was putting in to debt? Start by putting that into an account for your emergency fund II.

It’s that simple.

As well as that, we can also do the following:

  • Look for high-interest savings account that are geared to longer-term and regular investment. Since we are not going to need the cash “immediately” (and we have our emergency fund I to assist with that) we can afford to wait a bit before getting our hands on the cash. For example, many banks run a “30 day notice account” which yields higher interest, but you must notify of intent to withdraw, which takes 30 days to clear.
  • All that yummy interest from our high interest account should be reinvested to help build the fund quicker.
  • Ensure that our fund target is at or above our current salary. If you take a pay rise, then bring the fund up too. If you take a pay cut, bring it down (or leave it where it is if higher).

Always try to keep it simple, but also try and get as much bang for your buck. You might find the bank starts to play more nicely with you once they get wind of our financial intentions (since they don’t like us right now because we aren’t lining their pockets with interest from credit cards and charges from overdrafts etc.).

In Summary..

The process is simple. Since I have only just cleared my debt I have only just started building my emergency fund II, however, I have set some targets for the end of the year and really hope to meet them (but I have a rather challenging year ahead so not gone public with the commitment :).

I have to be honest, I am really excited about getting this one done. It must be such a liberating feeling that no matter what happens with your employment status, you are going to have a pretty strong safety net that should last a year.

Happy saving!

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