A well designed financial plan is essential for reaching your goals. However, there are many unforeseen and uncontrollable events that can trip up even the best plan. Your car may suddenly require costly repairs or your roof could start leaking. What if you suddenly fall ill or lose your job?
Rather than relying on luck, it makes sense to put money aside in case of an emergency. An emergency fund is an essential part of a well-designed financial plan.
How much should you put aside for emergency savings? No less than three months of your total monthly household expenses. Where should you put your emergency savings?
Should you use a line of credit? It may make sense to supplement your emergency savings with a line of credit. However, you should avoid using credit for more than 50% of your emergency funds, as whatever you borrow must be repaid with interest.
You may wish to save more than three months of living expenses to ease your transition into a new situation due to a life event. In this case, consider the following guidelines.
To plan for an unexpected job loss, estimate your monthly living expenses (not covered by a spouse/partner’s income) and multiply that amount by the number of months you conservatively may be out of work. Subtract this amount from any severance payment you receive. Set it aside in your emergency fund. Once you are reemployed, any surplus cash can be redirected. If you choose to transfer some or all of your severance to a RRSP, to tax-shelter the payment, it may be necessary to hold some cash, for emergency purposes, within your RRSP.