Emergency funds – Where should you keep your rainy day money?

An emergency fund is an important tool to have in anyone’s financial toolbox. So in this article we’ll be covering why you need to have one, how much money should be in yours, and where you should keep it.

This article covers:
1. Why should you have an emergency fund?
2. How much money should be in your emergency fund?
3. Where should you keep your emergency fund?

1. Why should you have an emergency fund?

Most of us have money budgeted for everyday expenses like food, housing, and transportation. But what if something unexpected comes up? For example:

  • Broken stuff – E.g. if your car breaks down, your house needs maintenance, or if an old appliance needs replacing.
  • Healthcare – E.g. if you need to go to the dentist or doctor.
  • Loss of income – E.g. if you get made redundant and lose your main source of income.

With so many people having limited savings and living paycheque to paycheque, it’s relatively common to have to get into debt to pay for emergencies and unexpected expenses. Government support and insurance can help, but won’t cover all of the above scenarios.

That’s where an emergency fund comes in – money you put aside for a rainy day. The benefits of having an emergency fund are:

  • Protects you from taking on bad debt – When an unexpected expense comes up, you won’t have to rack up expensive credit card debt or take out personal loans to pay for it. An emergency fund can save you from getting into an even worse financial position when an emergency strikes.
  • Protects your long-term investments – An emergency fund can also save you from having to disturb or sell off your long-term investments (like shares or index funds) to pay for an emergency. It protects your long-term financial goals from getting derailed. That’s why it’s usually recommended to have an emergency fund before you start investing.
  • Provides a feeling of security – Having cash saved up in an emergency fund is like having a safety net for your finances. It can provide a sense of security, knowing that you have the means to get back on your feet when life throws you a curveball.

2. How much money should be in your emergency fund?

A popular amount people like to target when first starting up an emergency fund is $1,000. This is low enough to be an achievable amount to save for most people, but high enough to cover a basic range of emergencies.

Once you’ve managed to save up a $1,000 emergency fund, it’s widely suggested that you build up your emergency fund to be 3-6 months of basic living expenses. The idea behind this is to provide you with the means to cover your costs for 3-6 months, giving you enough time to sort out your financial situation (e.g. find a new job if you were made redundant). The amount of money you’ll need for this will vary from person to person. Take the following person for example who has $2,000 in basic living expenses each month. They’d be targeting an emergency fund of between $6,000 and $12,000.

Rent$1,000
Utilities$150
Food$500
Transportation$150
Insurance$100
Other$100
Total$2,000

Or take the following household that has $6,000 of monthly expenses. That would suggest an emergency fund of between $18,000 and $36,000. That’s a big jump up from $1,000, but if those expenses were split between 2 people, that equates to $9,000-$18,000 each.

Mortgage$4,000
Utilities$300
Food$800
Rates$250
Transportation$200
Insurance$250
Other$200
Total$6,000

Overall there’s no right or wrong amount to have in your emergency fund. Everyone is different, so always take your personal circumstances into account when deciding on your fund size. You may also want to consider factors such as:

  • Job prospects – Do you work in an occupation where you can easily find a new job? Or do you work in a specialised role which could be difficult to get back into if you lost your current position?
  • Support from other sources – Can you access any kind of support from family or the government?
  • Ability to cut expenses – Do you have room to cut expenses in an emergency? For example, could you work with your bank to restructure your mortgage or temporarily move to an interest only one?
  • Insurance – Do you have insurance that could help cover you in an emergency scenario (e.g. income protection & redundancy insurance)?
  • Exposure to risk – Are you at more risk of facing certain expenses? For example, do you have an old house that could be at higher risk of needing repairs?
  • What you define as an emergency – What do you want your emergency fund to cover? For example, some may consider a broken TV an emergency, while others are happy to live without one.

If you’re struggling to decide, there’s no need to overthink the amount. Having at least some emergency savings is better than nothing at all. But regardless of how much you have in your emergency fund, it’s worth reviewing the size of your fund regularly to ensure it’s still aligned with your current expenses and ensure that it’s growing to keep up with inflation.

3. Where should you keep your emergency fund?

There’s lots of different places you could possibly keep your emergency fund. In general, the place you keep this money should be:

  • Accessible – You need to be able to access your money quickly. An emergency won’t wait until you can withdraw your money before it occurs.
  • Safe – Your money should be stored somewhere that’s not exposed to the volatility of the financial markets. Otherwise you’ll risk having your funds go down in value, and not having enough to pay for your emergency.

So let’s explore the pros and cons of the different options. As you’ll see, some places are better than others for keeping your emergency money…

Savings account

The simplest place to keep your emergency fund is in a bank savings account. These accounts are both accessible and safe, plus pay you a small amount of interest. Examples with accounts that currently have relatively high interest rates are:

Another type of bank account that you can consider is a bonus saver account. These often pay a higher amount of interest than a regular savings account, but require you to deposit a certain amount of money and make no or limited withdrawals to earn the full amount of interest. For example:

  • Rabobank Premium Saver – Pays a regular interest rate of 1.75%. This increases to 3.75% if you increase your balance by at least $50 each month.

The downsides of savings accounts are:

  • May be too accessible and visible – This could be a bad thing if you’re easily tempted to blow the money that’s in front of you on a holiday or night out. A solution might be to keep your emergency fund at a different bank to keep the money out of sight.
  • Low interest rates – Earning 3.5% on your savings isn’t too exciting. But remember, an emergency fund is a tool to protect you, not a tool to make you money nor a means to beat inflation.
  • Loss of bonus interest – A downside specific to bonus saver accounts is that you’ll lose your bonus interest as soon as you make a withdrawal. It works well until you need to take money out of it.

Further Reading:
The ultimate guide to bank and savings accounts in New Zealand


Notice Saver/Term Deposit

Those seeking higher interest rates for their emergency funds could consider a Notice Saver account. For example:

Or alternatively a term deposit, for example:

Being bank deposits, these products are usually just as safe as savings accounts. But the price you pay for the higher interest rates is that these accounts are much less accessible than a savings account. Notice Savers take at least 32 days to withdraw your money, and term deposits require you to wait until the end of your fixed term before your money is released. These timeframes could be problematic in an emergency situation. It’s possible to break a term deposit or apply for an early withdrawal, but this is a poor solution:

  • Firstly, a notice period (e.g. 1 month) often applies when breaking a term deposit. Banks might waive the notice period if you’re in a position of financial hardship, but their definition of financial hardship may differ from yours.
  • Secondly, banks usually penalise you when making an early withdrawal. This involves taking away some or all of the interest you’ve earned.

However, there’s a couple of strategies that some people use to manage the lack of accessibility with these products (though they can take a lot of effort to set up):

  • Split your money and ladder/stagger the maturity dates of your term deposits. For example, you could split your emergency fund into six parts and put them in 6 month term deposits, with each one maturing each month. That way you only have to wait a maximum of one month before some money becomes available.
  • Split your emergency fund between a savings account and notice saver account. That way in an emergency situation you have some funds immediately accessible through the savings account, and more funds accessible in 32 days’ time from the notice saver account.

Cash funds

Cash funds aren’t talked about too much, but they’re a bit like a middle ground between savings accounts and term deposits. These are funds that are offered by fund managers, and invest in a diversified portfolio of bank deposits and short-term corporate loans. You can invest in them through platforms like InvestNow, Flint, or Kernel. Examples are the:

At the time of writing these funds have a yield to maturity of around 4.5% to 5%, so will deliver higher returns than a savings account, but lower returns than many term deposits. However, unlike term deposits you can withdraw money from a cash fund at any time, so they’re much more accessible.

The downsides with cash funds are:

  • Management fees – All cash funds charge management fees, typically ranging from 0.20% to 0.27%. Though even after taking account the fees, a cash fund is still likely to outperform a savings account.
  • Withdrawal times – A cash fund might take a little longer than a savings account to withdraw from. It can take a few days for you to sell your units in a cash fund, then a couple more days to have your money transferred from your investment platform back to you bank account.
  • Slightly less predictable – Cash funds are generally safe investments, but their value can still fall by a small amount over the very short-term. And unlike savings accounts, cash funds also don’t have a set interest rate as their underlying investments change regularly. It can be difficult to determine the exact yield you’ll earn from these funds.

Mortgage Offset/Revolving Credit

A popular option for those with a mortgage is to store their emergency fund money in a mortgage offset account or revolving credit account. Money stored in these accounts effectively counts towards paying off your mortgage, but can be withdrawn from at anytime.

For example, let’s say you take out a revolving credit loan of $50,000. If you had a $20,000 emergency fund, and paid that money into your revolving credit facility, you’d be left with a loan balance of $30,000. As a result, you’d earn an effective return by only having to pay interest on $30,000 instead of the entire $50,000. With mortgage rates currently ranging around 6.5% to 8%, the effective returns from this method can be significantly higher than earning interest from a savings account, term deposit, or cash fund.

However, there’s a couple of downsides to consider:

  • Interest – You’ll immediately start incurring interest on the money you’ve withdrawn for an emergency (given you’ve increased your mortgage balance by taking the money out). This is arguably the opposite of what an emergency fund is supposed to achieve, which is to protect you from getting into a worse financial position if an emergency were to hit. And offset and revolving credit loans aren’t the cheapest debt to have around. Their rates of around 8% are higher than the ~6.5%-7% rates you’d pay if you were to put your home loan on fixed terms.
  • The rules can change – Lastly, consider the potential for a worst case scenario where your bank changes the rules. Your bank could tighten their lending for whatever reason, and disallow withdrawing any funds from your revolving credit facility. Or perhaps they can change their offset ratio, making your offset account less effective in reducing your mortgage interest.

Overall this option can deliver potentially higher returns and is highly accessible, but is riskier and less robust.

Further Reading:
Using your mortgage as an emergency fund (Your Money Blueprint)


Credit cards

The rationale behind using a credit card as an emergency fund is that you could use it as a source of funds to pay for any emergency expenses, then pay back the debt during the interest free period (which is usually between 30 and 60 days). This might work well in conjunction with a notice saver account, as the interest free period buys you some time to withdraw the money from your notice saver.

However, the problem is that credit cards can’t be used for all expenses. They could work to buy groceries and pay for your power bill, but using them to pay for your mortgage or rent usually isn’t possible without it being a cash advance (which starts incurring interest immediately). In addition, relying on credit card debt to get you through an emergency is dangerous. While you may have the financial capacity to pay back the debt during good times, paying back the debt could be easier said than done during bad times. You risk digging yourself into a financial hole especially when you take the potentially high interest charges into account.


Shares

Shares have high potential returns and may even beat out putting your money towards a mortgage. This makes them a good place to invest your money and keep it productive. However, they’re not suitable as emergency fund. That’s because shares are volatile. Over the long-term, their returns will far outperform bank deposits and cash funds, but over the short-term their value can fluctuate a lot and you may face periods of negative returns.

So if you had to sell off your shares in an emergency, you’ll risk having to do so at a loss (which could easily be 10%, 20%, 30%, or even more). That could mean not having enough to pay for your emergency. In addition, imagine an economic recession when the economy is doing poorly, and more people than normal are losing their jobs – during this time, chances are the sharemarket is also doing poorly.


Conservative funds

Some people may be tempted to use Conservative investment funds to store their emergency money. They have higher potential returns than bank deposits and cash funds, while being less volatile than shares or Growth funds. However, they’re not immune from going down. For example, the Simplicity Conservative Fund has fallen over 10% in the past year. Again, if you’re forced to sell down your fund in an emergency, you could end up with less money than you need to cover that emergency.

Conclusion

An emergency fund is something we hope we’ll never have to use, but is still an important tool in our financial toolbox. It’s like a safety net for our finances, sitting behind the scenes, ready to cover emergencies and unexpected expenses we’re bound to face during our lives. Having an emergency fund can provide a feeling of security, save you from getting into debt, and protect your long-term financial goals.

There’s no definitive answer as to how much you should have in an emergency fund, but a popular amount to start with is $1,000, before building it up to 3-6 months worth of basic living expenses. But the most important thing is to ensure the amount you’ve saved up aligns with your own personal circumstances.

As for where to keep your emergency fund, we think many people fall into the trap of trying to optimise and make the most money from their fund. Yes, there are potentially clever ways to make more money than a savings account, like using a term deposit, or revolving credit facility. But always keep in mind that an emergency fund isn’t a tool to make money. Instead it’s more like a form of insurance. So the best place to keep your funds is a place that meets the actual objectives of an emergency fund – i.e. a secure place which allows you to drawdown your money from without jumping through hoops or getting stressed out.

Therefore we’re personally fans of keeping things simple, and putting the money in a savings account or cash fund. We may pay the opportunity cost of not having the money in a higher return product, but the security we get from having a stack of cash we can pull out during a rainy day with no penalties or strings attached is worth it.

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Disclaimer

The content of this article is based on Money King NZ’s opinion and should not be considered financial advice. The information should never be used without first assessing your own personal and financial situation, and conducting your own research. You may wish to consult with an authorised financial adviser before making any investment decisions.


Comments

  1. Some useful advice. We utilize a Heartland Bank direct call account which currently pays 3% p.a. – Had to use it a couple of times for emergencies and generally speaking the money is in your regular account the following business day. Recently we’ve also added one of the 32 day direct call accounts which pays 4.25% and will slowly build that up over time. Very happy with them so far but good to know the other options.

    1. We had the same set up too! But have since moved the 32 day notice saver over to Kernel’s cash fund for better liquidity and similar returns. Interestingly Heartland has had the best on call savings rate over the past few years, but hasn’t kept up with the recent rate increases from likes of BNZ and Kiwibank. We’ll stick with Heartland for now, but may consider moving if their rates continue to lag behind.

  2. Great article, thanks guys. You really seem to be banging them out in the last few weeks (a new years resolution perhaps?), keep up the great work.

    This is very timely as I’ve been considering where to stick some of the emergency fund as it very much not keeping up with inflation and the idea of having all those little green employees eating donuts rather than working for me (MMM reference there), is very disheartening. I use Investnow for other investing so might keep a month with the bank, and go check out the various cash funds on offer for the rest.

    I must admit to having been a bit lazy with looking around for emergency fund options and until now have had the emergency fund with ANZ in a serious saver account, though I see that is currently up to 3.45% (if you do no withdrawals) which at least isn’t too far off. For me automation of so much of this is key.

    Thanks for getting me thinking!

    1. Thanks Mikey, glad the article was helpful. We try to put out a new article every week, but we might actually have to reduce that this year as it’s quite a challenge!

  3. Kia ora Money King NZ!
    Thanks for all of your hard work and consistent blogging (not easy, I know).
    My two cents on emergency funds come from personal experience and observation of many others I interact with via my blog.
    Our emergency fund currently sits at $14,000 and is accessible within 30 seconds. I dip into it a couple of times a year if all the sinking funds we have don’t cover something. The benefit of setting that figure is that if I dip into it by $500, I can clearly see that balance drop to $13,500, and I know I need to top it back up ASAP. It is black and white. That is important, I think. If it begins to get mixed up with a mortgage, you lose that clarity of exactly what is available and what has been used.
    Accessibility is important too because solving my own financial headache in an instant stops me from reaching for a credit card, afterpay etc. Too much paperwork! No debt for me, thanks.
    Another thing is that over time our financial position keeps improving due to the hard mahi put in over many years to spend less than we earn, become debt free and invest the difference. That has meant that our thinking moved away from “this money should be put to work” to thinking instead that it now makes up a tiny portion of our overall net worth. And that it is indeed working its guts out to provide my family with solutions to our problems if they crop up. “Putting your money to work” is not always a financial thing; it’s emotional, too and knowing that we have it there provides immense comfort and freedom.
    I would encourage people not to overthink their emergency funds. Just do it, set some money aside and get on with their day.
    All the best, and have a fabulous 2023! I’m looking forward to reading your helpful content. If ever I can help in any way, just get in touch.
    Ruth (The Happy Saver).

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