As you read on day 4, even the best budgets cannot anticipate everything. You can have good surprises – on the spot bonus anyone? – or bad ones. In order to cope with the bad ones you need to secure your situation. You need funds to fall back should hard times come by. You need an emergency fund and a few insurance coverages.
Emergency Fund
An emergency fund is cash you set aside in a dedicated account to cover your unanticipated emergencies. You need to set aside a minimum of 3-months-worth of basic living expenses. It is difficult to precisely define what an emergency fund encompasses. The better you get at dealing with your finances, the more your emergency definition becomes strict; hence, things that you see as an emergency today may not be in a few months time – funny how that works isn’t it?
An easy way to get yours started is to open a dedicated savings account for your fund. Once you create it, you just transfer a few dollars every month, and you have it. Try to only take money out for emergencies.
Insurance
The emergency fund should help you manage unanticipated emergencies. But sometimes you will faced with bigger surprises than you can cope with. For such times, you need to subscribe to insurance. The concept is similar to the emergency fund: you set money aside now to secure for potential difficult times. The difference is that the insurance system protects you against bigger risks by transferring them to a large group of subscribers. The essential ones are health, home and car insurances; I see life as a non essential one for non-parents.
I personally like to have a 6-month emergency fund, and only subscribe to insurance covering risks I know I won’t be able to cover on my own. This means I cover my laptop risks with my emergency fund and only subscribe to house, car and health insurances for now. What about you?