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It’s a good question – and one you’ve probably thought to yourself when first entering in to your financial freedom journey: What is an Emergency Fund, and how is it different to a Sinking Fund?
Personally, I’m a big fan of both, and I’d like to think I could hand-on-heart recommend them to anyone and everyone, regardless of circumstances.
So, let’s get straight into it – what is an Emergency Fund?
An Emergency Fund is a pot of savings you’ve put aside for just that: an emergency. It could be a job loss, a health issue, an unexpected expense or a paycut. It’s there to fall back on, and you aren’t saving for anything in particular. Opinions vary on what is a good amount to have in there – from £1000 all the way to six months’ worth of expenses. Personally, I aimed for three months, and have since changed this to a stretch goal of £10,000.
How Can You Start an Emergency Fund?
It’s easy and is something you can start right now! First of all, work out what your absolute barebones budget is. Take out some of the unnecessary expenses you have each month, and solely focus on what you need to survive – housing costs, car payments, bills, food etc. Times this by the number of months you would like to save for (somewhere between 3-6 months is probably best!) and then build contributing to your Emergency Fund into your budget.
Top tips for setting up an Emergency Fund
- First up, I’d recommend using a separate account than the one you’re paid into, but ensure it’s still easy to access. If your Emergency Fund savings are in your normal current account, chances are you’ll feel too much temptation to dip into them for a splurge when you next go shopping, but if they’re too tricky to access, they won’t be there when you need them.
Personally, I keep my Emergency Fund in Premium Bonds so that I stand a chance at winning some money every month, and only need to wait a couple of days to have the cash with me if I need it.
- Next up, move a small amount in to your designated Emergency Fund right now so you can start your journey – even £5 or £10 will get you in the right mindset and keep you going.
- Download a progress tracker so you can see your progress at a glance – it’s seriously satisfying to colour in every block as you move towards your goal. You can find progress trackers online – use Google for free ones, or head to Etsy for ones that will cost you a couple of quid.
- Move what you can afford into your Emergency Fund when you’re paid. Many people fall into the trap of only saving what’s left by the end of the month, but by doing this, you’re giving yourself permission to spend as much as you can! Instead, work out what you can afford to save on payday without leaving you pinching the pennies all month, and move that straight to your Emergency Fund/Sinking Funds before you accidentally spend it all.
- Don’t be hard on yourself! If you need to touch your Emergency Fund for whatever reason (these things happen!) instead of looking at it negatively, change your mindset – if you hadn’t put all these systems in place, the situation that had you reaching for your Emergency Fund could have got you into debt instead. Past you had your back, and you should celebrate this! Just make sure you top up what you spent when you can, and avoid the temptation to dwindle it all away.
- If you don’t think your pay packet will allow you to build an Emergency Fund, look at other side hustles you can do from the comfort of your own home alongside your 9-5. I built up most of my Emergency Fund when I was fresh out of university, making £15,000 a year. There was no way I would have been able to build a solid Emergency Fund on just that wage with the outgoings I had, so instead, I side hustled.
These posts might help you when you’re debating what side-hustle to start:
Money Making Tips for Students (that are also super relevant to us all!)
I’ve also included a link at the bottom of this post to download my free ebook on ’50 Side Hustles You Can Start Today’ incase you’re looking for more inspiration.
Just remember, just because your 9-5 wage might not allow you to build an Emergency or Sinking Fund, you can totally change your circumstances yourself.
Debt and Emergency Funds – which should you prioritise?
I understand the temptation is there to pay off debt as soon as possible rather than build an Emergency Fund – I too had to come to a decision when paying off my credit card during lockdown. I knew with a few months of working from home (and therefore not spending £320 on petrol every month!) I could get my credit card paid off so much quicker than if I still needed to go to the office. But in such an uncertain time, where I was still in my probation period and had recently moved into a new house that was considerably more in rent than my previous place, I knew I needed to focus on squirrelling away as much cash as I could should the worst happen.
Instead, I decided to allocate half of what I was saving through working from home to paying off my credit card, and half went to my Emergency and miscellaneous Sinking Funds. It took a few months longer than it could have, but I am now completely credit card debt-free, and have a a healthier Emergency Fund ready to fall back on if I need it.
With that in mind, I personally would recommend building up an Emergency Fund at the same time you pay off debt – if you don’t have an Emergency Fund and suddenly need access to cash quick, chances are you’ll only end up further in debt in the long run.
However, I understand that’s not possible for everyone. Instead, prioritising is key – if your debt has high interest repayments, absolutely look at getting this paid off ASAP, or consider moving it to a 0% balance transfer credit card. You need to do your own due diligence on this one and weigh up the variables, but you absolutely can pay off debt and get some savings behind you at the same time – I promise.
Ok, so you’ve got your Emergency Fund set up, but what on Earth is a Sinking Fund?
A Sinking Fund, on the other hand, is specific to a particular cause. I swear by my Monzo pots which are a perfect way to separate your Sinking Funds, and I currently have pots created for car expenses (think MOT, service, insurance etc), gifts (birthdays, Christmas), adventures (my personal favourite…) and miscellaneous (for smaller expenses which allows me to avoid touching my Emergency Fund).
It takes some planning in terms of which pot I allocate the funds to each month when working out my budget, but in the long run, I know I’m covered for my car payments this year, I know Christmas will be covered so I can enjoy my November pay packet rather than having to put it all to presents, and I know if my washing machine breaks down, I can cover the costs using my miscellaneous Sinking Fund.
So how should you budget for sinking funds?
In theory with a sinking fund, you’re saving up for something in particular. So, for example, I might allocate £500 each year towards Christmas, budget £750 for car expenses (not including petrol), and aim to have £1200 to spend on holidays each year.
With a Sinking Fund pot for each of these areas, by dividing these totals by the number of pay packets I get in a year (I’m paid monthly, so this would be by 12), I can get a rough idea of how much I need to move to these pots every time I’m paid.
So, using the examples above, that would mean the following is sent straight to each pot on payday:
- Christmas: £42 per month
- Car expenses: £62.50 per month
- Adventures: £100 per month
(Figures are based on saving throughout a calendar year, but you could alter yours to a shorter/longer deadline).
Of course, things are going to crop up and it’s not always going to be as easy to allocate a set amount to each pot every month, but by breaking down your larger expenses, you’ll be looking after future-you when your MOT comes around, or you’re looking at six family birthdays in the space of a month.
If you can only afford one right now, which should it be?
Having an Emergency Fund is absolutely crucial. Without a doubt, if you only do one thing after reading this post, it should be to set up an Emergency Fund as a matter of priority.
By having an Emergency Fund, you’re protecting yourself and your family so that if something unforeseen happens one month, you don’t need to add financial worries to the issue.
If 3-6 months’ worth of expenses seems like a bit of a stretch right now, do what you can – even knowing you have £1000 behind you will be comforting, and you’ll be amazed at how much better you sleep.
If you’re looking for ways to build your Emergency and Sinking Funds, download my free ebook on ’50 Side Hustles You Can Start Today’ below, and let me know how you get on over on Instagram – I’d love to hear from you!