COVER STORYWHERE TO INVEST $200PW OVER 5 YEARS
- RAINY
DAY FUND
O
ne question that arises
quiteofteninthefinan-
cial planning process
is “What are you going
to do in case of emergency?”
Moreoftenthannotitismetwithablankstare.
Whether you’re undertaking your personal
financialplanningorcontemplatingwealth
creation it is critical to plan for contingencies.
The first step when building an emergency
fund is to identify an affordable savings budget.
Startwithabreakdownofyourafter-taxincome
and subtract all your expenses broken down as
fixed (such as mortgage), variable (groceries)
anddiscretionary(holidaysandgifts).When
youhaveidentifiedthesurplusyouarewell
onthewaytowealthcreation.Wesuggest
initiallybasingyourplanondedicating50%
of the surplus to allow for possible budgeting
errors. I have modelled the financial outcomes
basedonweeklysavingsof$200.
An emergency fund can cover an event such
asanaccidentorillnessthatleavesyouunable
toworkforanextendedperiod,acarbreakdown
or accident, losing your job or serious health
issues. How much is needed depends on a
number of conditions. A well-considered risk
assessment will assist you in understanding
the amount of money you should put away.
Anobvioussolutionistohaveenoughcapital
inasafebankaccounttocoverallmannerof
emergencies. But it is not financially viable to
do this, nor can anyone reasonably afford it.
Andsettingasidecapitalforanemergencywill
alsoreducethecapitalyouhaveavailablefor
building wealth. You may find that by reserving
capital for emergencies you are saving for an
event that never occurs.
Irecommenddrawingupalistofpossible
emergencies. Then estimate the likelihood of
each event, along with the potential impact or
damage.Allocateafinancialfigureagainst
each emergency to meet the cost.
No doubt your list will exceed your resourc-es.Soweighttheeventsinorderof
importance and discount the financial
coverageappliedtoeacheventbya
percentage based on its likelihood and
likely financial impact. For events that are
likely or would have a high financial impact
youshouldprotectyourselfbytransferringthe
risk to an insurance company through a policy.
When you have established how much
youneedtoputawayyoucanstartsaving.
Irecommendafigureofthreemonths’gross
salary. When you achieve that first savings
objective,re-evaluateyourplanandmakeany
changes. Meanwhile, you can carry on saving.
I do not necessarily advocate only reserving
funds for emergencies. But I believe in building
investment strategies that allow you to earmark
certainfundsforemergencies.Myadviceisto
construct your investment strategy in a way
that incorporates a component of your capital
you could use for emergency funding but also
contributestoyourwealthcreation.Toachieve
this you will need to balance principles of capital
preservation, liquidity and accessibility with
tax considerations, investor risk profile and
return objectives. The appropriate combination
will depend on your financial circumstances.
More common investment options include:ONLINE SAVINGS ACCOUNT
These provide an interest rate return slightly
higher than a regular savings account. Funds
areatcallandreadilyaccessible.Butthebank
or financial institution may impose restrictions
onthenumberofwithdrawalsyoucanmake
each month without penalty. It may also pay
a lower interest rate or charge fees if you do
not maintain a certain minimum monthly
balance or make regular contributions.TERM DEPOSIT
This form of investment, offered by nearly all
banking institutions, allows you to contribute
regularly over a fixed term. It has minimalSTORY
CHRIS
SMITHcosts and is regarded as simple, safe and low
maintenance.However,ithasalowerreturn
than other types of investments and may not
keep pace with inflation while interest rates
arelow.Ifyouweretodrawonthefundsbefore
maturity, your return is usually reduced.MORTGAGE OFFSET
Ifyouhaveahomeloanthatisnottaxdeductible
and spare cash flow each month, it is a great
idea to pay it into your mortgage directly. A
more popu la r choice t hese days is to pay it i nto