How to start saving an emergency fund

What is an emergency fund?

Saving is a brilliant habit to get in to. While you may have several different savings goals, the very first thing you should look at when starting to save is building an emergency fund.

This fund aims to give you a financial buffer should you lose your job, or be faced with an unexpected expense that would otherwise cripple your finances. The goal of an emergency fund is to provide financial support if and when you need it, and is often built up in an easy access account. This way you can regularly add money to it, but can also quickly withdraw it when you need to.

Why do you need an emergency fund?

Simply, you need an emergency fund to ensure you don’t struggle financially should something unexpected impact your finances. This could be anything from being made redundant to needing to replace a boiler, or suddenly finding that you need a new car. It will also give you some peace of mind, not to mention a feeling of some control in a situation where you might otherwise find yourself needing to borrow money, helping you avoid expensive debt as well.

Do you need an emergency fund if you have insurance?

If you’ve got certain insurances, such as income protection or critical illness cover, you may wonder if you really need an emergency fund too. Well, while these policies can be incredibly valuable by providing a way of making sure you can pay at least some of your outgoings in the event you’re unable to work or are made redundant, they won’t cover any unexpected expenses if you’re still employed.

Likewise, policies such as car insurance, home insurance or home emergency cover are essential products that can provide valuable peace of mind, but there are always limitations. You may not be covered for your particular scenario and even if you are, there may be additional expenses to pay as well, so it’s always worth having an emergency fund alongside any relevant insurance policies.

How much should you have in an emergency fund?

How much you will need to stash in a savings account for your emergency fund will depend on your personal situation, but you would ideally want enough to cover your bills and essential expenses for a few months. It's generally recommended that you have around three to six months' worth of income saved in an emergency fund, just in case.

However, this can vary depending on your circumstances. If you have a family and are the sole breadwinner, or you’re self-employed and your income fluctuates, you may want to increase the buffer to cover nine months of expenses or more.

Sometimes you might even have an inkling of a forthcoming emergency such as a hunch that your car might not make it through the next MOT, so you may want to up the amount you save in preparation.

Where to keep your emergency fund

The key part of an emergency fund is that it needs to be accessible and flexible. You should look for an account that lets you:

• pay in money whenever you want
• make withdrawals with little or no notice.

Some people may find their current account sufficient, particularly if they’re earning high in-credit interest. However, the downside is that your emergency fund is intermingled with your everyday funds, which can cause confusion – not to mention the temptation to spend! For this reason, it’s normally recommended to have a separate account.

This means one of these types of savings accounts would probably be most suitable:

Easy access savings accounts

Easy access accounts allow instant or no notice access to your funds. No notice access could mean you will have to wait a few days while the money is transferred to your bank account. However, check the terms as some only offer a certain number of penalty-free withdrawals each year. Make sure to watch out for introductory bonuses as well, and be prepared to swap accounts when these end.

Notice savings accounts

Notice accounts let you access your money after giving a certain amount of notice. This will vary depending on the account you choose, with higher interest rates typically payable when you can give a longer notice period. Sometimes you can get your money sooner, although this usually means forfeiting a certain amount of interest. Remember that if an emergency were to hit, you probably wouldn’t want to give too much notice, so choose your term accordingly.

Regular savings accounts

Regular savings accounts can pay high rates of interest, but will normally require you to commit to making a set number of payments. There will usually be other conditions such as a minimum/maximum amount you can pay in monthly, and some come with penalties if you make a withdrawal. But this all serves to make regular savings accounts great for undisciplined savers, as they could be a great way to get into the habit.

Just make sure you find one that allows withdrawals, so you needn’t worry about not being able to access your funds in an emergency.

Note that you may want to consider cash ISAs in any one of these account types to ensure your savings remain tax-free.

Should I build an emergency fund or pay off debt?

This can depend on your situation. If you’ve got a lot of expensive or priority debts – such as council tax debt, for example – you’ll want to pay these off first before starting to build an emergency fund. Similarly, if you’ve got a lot of expensive credit card debt that you can’t consolidate onto 0% balance transfer cards, you may want to focus on paying some of this down first.

However, if your debt is under control – if you’ve only got mortgage debt and/or interest-free credit cards – it may be time to focus on building your emergency fund.

Seven tips to build your emergency fund

1. How much do you need to save?

Start the process by setting a target of how much you’ll need to save. You can do this by looking carefully at your monthly budget, totting up everything you have coming in (typically your earnings) and then making a note of everything you have going out (your outgoings).

This should include all essential bills, food, the money you spend on socialising and any additional expenditure. Once you have that figure, multiply it by at least three to get an idea of how much you should aim for.

2. How much can you afford to save?

Knowing the ideal scenario is great, but now you’ll need to consider how much you can actually afford to set aside. This is where you’ll need to carefully review your budget and work out how much you have left over after all essential expenditure, which could theoretically go into your savings.

If there’s not much left over, try looking for any areas you can cut back on to save money. For example:

• Do you have several streaming services that you could reduce?
• Do you have a gym membership you never use?
• Can you get a better price for your insurances?
• Could you shop at a cheaper supermarket?
• Can you cut back on meals out or takeaways?
• Can you get a more competitive energy tariff?

Once you've done all this you should be able to identify the amount you can comfortably put away each month.

Bear in mind that the amount you decide to save shouldn't be such a challenge that you find it a struggle getting through the month, but at the same time, to achieve your goal you’re going to need to save a reasonable amount. It’s all about striking the right balance.

3. Set up a standing order

Once you know how much you can set aside, it might be worth setting up a regular standing order from your current account to your savings account. This will ensure your savings make it to the emergency fund each month, and if you set it up so it goes out as soon as you get paid, you may not even notice it going – plus it’ll remove any temptation to spend!

You may also want to utilise the various savings tools offered by banking and savings apps – features such as automatic saving and rounding up can make all the difference to your savings pot.

4. Stay motivated

It’s important to remember that you won’t be able to save your emergency fund overnight. Be prepared for it to take several months, even a couple of years, until you've got your fund at a level you're happy with. Don't be put off by the length of time it takes to save – keep thinking about what you're saving for, and how this money would get you out of a hole if you were ever to need it.

Be consistent, and remember that even saving a small amount each month can soon add up, particularly when you consider the impact of compounding.

5. Regularly review your fund

It’s important to regularly review how much you're saving to make sure it’s working for you. If you're finding it a struggle to save the amount you committed to, you may want to reduce your monthly amount, as that way you're far more likely to stick to it.

You may also need to adjust things if your outgoings or responsibilities change, such as if you have a child, your bills increase or you’re moving to a more expensive property. At that point you’ll want to review your monthly savings accordingly, making sure it’s still affordable.

It’s all about being flexible while giving you the best possible chance of meeting your savings goal.

6. Put any extra money into your fund

While it’s important to reduce the amount you save if you need to, you may also want to increase it if you can.

For example, if you receive a bonus from work you could put it straight into your savings account, or if you manage to reduce your monthly outgoings (such as by getting a lower premium when you renew your car insurance), consider putting this extra cash into your emergency fund each month, rather than letting your monthly finances absorb it.

Similarly, if you have a pay rise coming up, consider diverting this money into your savings before you become accustomed to it. You won't miss what you've never had, but you'll get to your savings goal all the quicker!

7. Replace any money you withdraw

If you need to dip into your account, you should try to top it back up as soon as possible. That way it’s still there when you need it.