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How much should we have in our emergency fund?

Friday, May 29, 2015

Having an emergency fund is important. 

No rational person would ever say an emergency fund is unimportant. 

Rationally, we know that bad things happen sometimes and we might need to have more liquidity at hand for such situations.

Whatever our persuasion might be in our journey as an investor, we cannot deny that cashflow is important. 

There could be times when cashflow is negatively affected and slows to a trickle or it could even dry up. 

That is when an emergency fund is drawn upon.

If our cashflow is a like a stream of water, an emergency fund is like a water tank that will dispense life giving water in the event of a drought.

The question of how big an emergency fund is enough is more difficult to answer because there isn't any one size fits all amount, obviously. 

Then, is there any guideline which AK could offer? 

Well, I could talk to myself, I suppose. 

Remember, however, AK is just sharing what he has done in his life. 

He is not a trained financial adviser.

Whether an individual's emergency fund is sufficient depends very much on his lifestyle, the number of dependents he has and how old he is.


We could have a simple lifestyle or a lavish lifestyle or somewhere in between. 

Of course, what is considered simple or lavish would differ from person to person. 

No matter what our definition, we will have certain expenses which are fixed or routine and some which are discretionary.

Fixed expenses are mortgages, Telco bills, loan repayments, insurance premiums etc.

Discretionary expenses are holidays, birthday parties, visits to restaurants etc.

Of course, there is some room for debate as to what is fixed and what is discretionary. 

However, I will say that fixed or routine expenses are those that cannot be eliminated as easily as discretionary expenses.

Number of dependents

For those of us who are still single, some of us might have to take care of elderly parents or young siblings. 

For those of us who are married, some might have children who still need to be cared for. 

Our dependents will have routine expenses (and discretionary expenses) too.


As we grow older, it is harder to find employment if we should be retrenched. 

If we manage to find re-employment, we might have to take a pay cut. 

Well, I am just taking my own advice to be pragmatic and not be overly optimistic or pessimistic. 

So, I think a bigger emergency fund as we grow older, all else remaining equal, is sensible.

So, bearing the above points in mind, is there a formula we can use to arrive at an amount that we should have in our emergency fund? 

Forgive me that I do not know how to express this in a neat equation. 

I offer you neat paragraphs:

If we take all our monthly routine expenses (our own + our dependents') into account, we will know what is the minimum amount of money we must have each month in order to maintain our current lifestyle. 

If we are in our 20s, multiply this amount by 6 to determine the size of the emergency fund required. 

If we are in our 30s, multiply by 12x. 

If we are in our 40s or older, multiply by 24x.

Someone once denounced me for being fake when I said I maintained an emergency fund enough to cover 24 months' of routine expenses. 

He didn't believe that I still needed an emergency fund because my passive income stream was strong enough to replace my earned income. 

Do you feel the same way?

If we remember my earlier analogy that our cashflow is like a stream and that our emergency fund is like a water tank, we will understand why I think an emergency fund is a must even if we should have a passive income stream.

So, how much should you have in your emergency fund? 

I hope this blog post has given you an idea.

Related posts:

1. Why a meaningful emergency fund is important?
2. Emergency fund: How much is enough?


The Sun said...

Hi AK,

It will be good for us to know that one's passive stream of income may not be constant, especially if one is invested in properties, stocks, or perhaps even in REITS and business trusts. In the event that this stream of income is reduced, at least one can still fall back on his emergency funds.

victorlsl1 said...

I think all the emergency fund can be put into Singapore Savings bonds. better right?

AK71 said...

Hi Sun,

Emergencies could take many forms and I will not be so confident as to say that I will never ever need an emergency fund because I have a strong passive income stream from my investments in the stock market. -.-"

AK71 said...

Hi victor,

I blogged about my thoughts on the SSB before and who I think will find it attractive: Singapore Savings Bond: Good or not?

I believe that it will be a good place for some to park their emergency funds. ;)

pf said...

Did I mention before?

I attended a course for wealth management recently. The instructor said he does not have any emergency fund. His emergency fund is by way of personal credit.

He also do not maintain any deposit account. Amazing.

His approach is too extreme to me. But I also do not think we should overdo the emergency funds. Because the most critical of all emergencies is life threatening illness. Which should be covered by insurance policies, Medishield, etc.

Next, it would be the loss of job. Which I agree there should be some funds to cover. However, I believe we should all try to keep ourselves as marketable as possible. To avoid issue of can't get any job. :)

pf said...

Oh...and to add on. I think SRS can be a good emergency fund to tap on for loss of job. Although there is a penalty, but for loss of job, we have no income to pay tax upon. So it's ok for me to draw out SRS for such purpose.

Other than that nothing much to be defined as emergency to me.

AK71 said...

Hi pf,

Oh, I agree that the example of not having even a savings account is extreme. Rely on an overdraft account for emergencies? It seems like a really bad idea to me. Seriously, it boggles my mind and I am concerned that this person is actually a wealth management trainer... -.-"

pf said...

Actually he is not too bad. ...shared a good point about life insurance. He said that he buys whole life insurance because in the event he didn't manage to pay premiums, it would go into policy loan. Won't lapse. If it is term insurance, policy will just lapse.

I mean, there should be a balance lah. We need to rationalise and define what are emergencies to us lor.

If it is illness, then medical insurance. If it is loss of job, then Savings and SRS and rent out rooms of my flat to ppl.

If it is parents illness, then now shld try to find the source of funding already. No need to wait till emergency.

If it is anything else, relative being chased by loan shark....sudden feeling to go overseas for further education....suddenly being sued by other ppl...??? Suddenly family got kidnapped and need ransom? ????

All those no go for me money try not to get into trouble or for things that are out of reach lor.

Not sure what else can be defined as emergency?

AK71 said...

Hi pf,

Is this trainer an insurance agent by any chance? ;p
Buys whole life insurance. Hmmm...

If he cannot pay for the whole life insurance, it will only be "self paying" if he has been paying for it for many years (e.g. 13 to 20 years). If he cannot pay for it in the early years, it will lapse anyway. Policy loan? There has to be cash value in the policy to be used as collateral.

Buying term life is much cheaper. How much cheaper? For the same insured value, 90% cheaper possibly, off the top of my head. What he pays in a year for his whole life policy, he could use the money to pay an equivalent term life policy for 10 years! I think it is easy to simply put aside the money to pay for 30 years of term life if he can afford 3 years of whole life.

Of course, this is difficult for him since he does not believe in having a savings account to lock away some money. ;p

This person just sound quite bogus to me... -.-"

pf said...

I think he is just an aggressive in his wealth mgt. He believes in saving and not spend excessively as well. Some examples he shared...he needed a car when he had 3 young kids but not an expensive first hand car. Modest 2nd hand car will do. Borrowing less than 50% to pay for the car.

However, he doesn't let his cash sit idle. He mentioned it was too high opportunity cost to him.

Anyway, on the whole life insurance, I believe it is what fits his circumstances. If he didn't have the liquidity short term, and in the event he pass away, his family would still be taken care of.

I believe that one's risk appetite and purpose would dictate the instruments to achieve financial objectives.

So for emergency funds, i don't think there is a standard guideline for how much to set aside. As a risk manager, I would first assess what are the risks and formulate a control to address the risk. So, my point is that people should think what sort of emergencies they think they would face. What is the likelihood of such risk event? Are there any controls already in place to address this risk? If having cash as emergency fund is the only way, then thats fine.

Once people are able to identify and articulate the risk event, then would be able to think if risk control/mitigation, risk transfer (insurance), or risk acceptance....always bear in mind the cost benefit of all the options.

AK71 said...

Hi pf,

I can't and won't comment on his personal circumstances. I respect the decisions he make for himself but to conduct a session in wealth management and to propagate his more adventurous ideas is, I feel, rather irresponsible. If he weren't a trainer, I think I would not have any issue.

Most people are not sophisticated enough to do what he does and most people are not sophisticated enough to realise this. For most people, to err on the side of caution is a good thing. We want to remember that "money not made does not equal to money lost". Some opportunity cost is not a bad thing. To sit on some cash is not a bad thing. There are worse things to do than sitting on cash.

Well, I can only caution anyone attending his class to question the ideas offered and not simply accept them. Like you said, the choice of instruments is very personal and depends on a person's objectives as well as his ability to stomach risks.

AK71 said...

Reader says...
I am more conservative than you. I keep 84 months of expense as emergency fund. Don't ask why it's 84 months. I guess that it happens to be the desired figure which I am comfortable with. I will invest the excess in Singapore listed stocks.

AK says...
I think 84 months is way too much.

It would only make sense if you expect to be jobless for up to 84 months at a time.

Otherwise, it seems like pretty inefficient allocation of resources.

I am sure you have other reasons which are probably more compelling than simply because you prefer to have more in the fund. I shan't probe. ;)

AK71 said...

Winshern Ho says...

Peace of mind is crucial when planning for the emergency fund.

Initially I only wanted to keep 3mths expenses.. but that would not have given me enough “peace of mind”

WTK said...

Hi AK,

Additional point to add in my view of saving 84 months of expense.

I do not have other compelling reason to keep month in the fun. It's a matter of unexpected extreme emergencies which I might encounter. Likewise the same for you, I also have parents to support. If I end up being retrenched in my current job, I feel that there is a need for me to keep more in the fund to last the 84 months. I just reached 40s which is a crucial age in which the risk of retrenchment is super high. It will not be surprise to be be jobless for as long as 84 months given the current climate. Of course, there are also alternative options to do some part-time jobs to supplement the expense and the income from the part-time will reduce my expense which will eat into the fund. This will make the emergency fund last longer. I also have share investments which generate about $13K of dividend per year. I re-invest this $13K back to the share investments on the current basis. I will continue to do so if I am jobless and will only use the generated dividend to cover my expense only at the last resort (i.e my Fund is completely utilised).

Currently, I utilise all my excess saving (about 45%) from the income generated from my full-time employment (80% of my monthly remuneration after CPF contribution deduction) into the share investment. This will stop in the event if I not longer have full-time employment. I also make voluntary CPF contribution of about $3,500 on a yearly basis and will also cease making such contribution in times of unemployment.

Hopefully, the above strategy will enable me to last for the lifetime without much worries.


AK71 said...

Hi Ben,

Thanks for reasoning your 84 months emergency fund in detail.

It certainly puts the number in perspective for us. :)

AK71 said...

In the last one week, I received messages from 3 readers who have been retrenched.

Sad news but I am happy to say that all of them have some money socked away for a rainy day.

In our pursuit of passive income to achieve financial freedom, it is important to remember that having an emergency fund is even more important.

It is immediately accessible and highly dependable.

AK71 said...

Tony Yeo says...
Not everyone can achieve a rainy day fund equivalent to 24 months of expenditure....I would think 3-6 months is the usual norm.

AK says...
And not everyone should have a 24 months emergency fund but for those who need it, they should work at it.

AK71 said...

Raymond Ng says...
Retrenchment may be good at the right time.
Some of my friends (including me) opt for retrenchment and enjoy the benefits. Compensation is 1 month salary for 1year service. Some of us has 15~25 months compensation base on last salary. Yummy.

AK says...
Not every company has generous compensation terms, unfortunately. :(

AK71 said...

Irene Peh says...
I am a housewife. After reading AK’s blog, I have set aside an emergency fund of one year. Thank you AK!

AK says...
Your family is lucky to have you. :)

AK71 said...

Melvin Yak says...
Agree, I force myself to save up >24 months. the oil and gas industry I’m working I will nvr know when I will kena retrench next day

WTK said...

Hi AK,

This goes to show the reality of the corporate world. One cannot rely on the full-time employment for survival. The emergency fund is important and give one the power of control on own destiny in the event of the occurrence of the retrenchment. No one can stop the retrenchment apart from the business owners. It's the matter of making hay while the sun shines. The emergency fund coupled with the investment portfolio will give one the peace of mind and he/she can sleep soundly at night.


AK71 said...

Cecelia Ng says...
I understand and agreeing as i had applied to it.
Emergency Funds is a must!

AK71 said...

Kenji Tay says...

If u dun have emergency fund, then when you need the money and say, your stocks are down... You will be forced to sell.. Even if its a very good investment.

I think its always good to have everything in order, insurance, emergency funds, cpf and then any excess which u dun really need, you can consider allocating for growing yr portfolio.

AK71 said...

Milo Polo says...
What should one do if u retrench n not much cash? I want to learn

Tim Huang says...
The thing to do is to prevent such a situation by saving now. Other things could include picking up employable skills to find another job soon if really cash strap.

AK71 said...

Siew Mun Kwan says...

Set aside more EF, as you get older as you are less employable. Also set aside more for structural changes.

High salary jobs, high % of increment and large bonuses is a double aged sword, be prepared to take at least 30% pay cut. 7 years of prosperity and 7 years of famine it's a life cycle .

In good times set aside more in your storehouse. In famine times release your storehouse gradually. Predicting famine doesn't count unless u fill your storehouse to the brim.

AK71 said...

Hi Ben,

Hard truth and we need an emergency fund for hard times. ;)

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