Emergency corpus helps to financially manage contingencies. Additionally, it can also help to safely learn mutual fund investments, save on tax, increase returns on portfolio, facilitate career move, fast track financial planning and to teach saving habits to children.
Having an emergency corpus helps to financially manage a job loss, illness, accidents and so on. The corpus should help you survive the contingency. So the corpus size can be 3 months to 18 months of the monthly expenses, which one needs at minimum to survive. To determine the corpus size, the number of months depends upon the overall financial situation, age, health and insurance status, nature and stability of the employment and spouse’s earning. In general, six months size of corpus works for most families and can possibly be a good starting point.
Having strength in one’s own finances gives confidence and allows to help close family members as well, without disturbing your finances. It’s basically like building a war chest and being ready for unforeseen contingencies, not likely in one’s control.
Setting up money aside for emergency corpus should be like the way people use to save money in a hidden jar, in olden days. Emergency corpus can easily become a stepping stone for that ‘another flat’ that the family wanted to buy. The trick here is that this money should not be coming in an individuals’s line of sight, every day. Else, one may just end up spending it.
Now, to say that the emergency corpus is helpful for emergencies is like a commentator saying in a cricket match that 'Today the team that will play better will win the match'. Yes we all know that. So is that all to the emergency corpus? No, it’s actually bigger than that. Here are few additional benefits of emergency corpus that the families can get when they leverage liquid mutual funds (MFs) for part of the corpus.
Emergency corpus being in liquid assets, earns relatively lower returns.One way is to invest 1/3 of the corpus in an online Bank Account linked FD and 2/3 in Liquid MFs. Unlike FD, Liquid MFs (growth option), don’t need one to calculate the tax liability on interest every year. If one withdraws after 3 years, then the long term indexation reduces the tax liability, unlike in FD. This is helpful for investors in the high tax bracket.
Increase Return on Investments (ROI) on your portfolio
Many families do have the requisite liquidity, partly if not fully. The problem is that mostly the money lies idle in the savings bank account earning ~4%. By creating an emergency corpus structure, a family can earn higher return in Fixed Deposit and Debt MFs, thus increasing the family portfolio ROI. This avoids duplication of savings and liquidity across the accounts by both the spouses. Thus, when the emergency corpus investments are carved out, it’s easier to make the long term goal savings, fetching even higher ROI.
Get safely started on the mutual funds
Want to get invested in mutual funds but not sure? Get started with the Liquid Mutual Funds for the Emergency Corpus. For conservative families, Equity MF may be a difficult proposition. So leveraging Liquid MFs will give a feel of how MFs work as an investment tool. Some liquid MFs also allow Systematic Investment Plan (SIP), thus getting one used to the feel of regular savings.
Go, make that career moves
It’s often observed that lack of emergency corpus and non-availability of personal heath cover are common obstacles for youngsters in changing the job. In the transition period, one often observes a tremendous financial pressure. Similarly when one wants to venture out on his or her own, adequate liquidity gives lot of financial confidence. The emergency corpus must be reviewed in such a scenario, though.
Get Started on the Financial Journey
The first thing that financial planners recommend is to create an emergency corpus. By setting up this corpus, one creates the base and one of the high priority actions in a financial planning exercise is completed early on, leaving one to focus on larger issues. When the basics are in shape, one can strategize and quickly embark on the financial journey.
Lead by example
This is one good way to teach children about controlling spending habits, savings, being ready for contingencies, tax planning and importance of planning personal finance. When one is himself prepared, then teaching children with his or her own experience and example is so easy.
The contingencies cannot be avoided but reactions to the contingencies can be planned. Being prepared helps to reduce stress and anxiety and allows managing in a best possible manner. Leveraging Equity MF compliments and augments to the emergency corpus benefits.
The author, is the Founder and CEO of GettingYouRich, a Financial Planning firm.