Build an Emergency Fund

Learn how to build an emergency fund quickly with our essential guide! Discover effective ways to create financial security in India.
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4 mins
10 February 2025

Tackling unforeseen circumstances such as medical emergencies, loss of job, home renovations or automobile repairs can be challenging. Such circumstances warrant immediate financial action, which could strain your existing cash-flows or deplete your savings.

To prepare for such situations, you can build an emergency fund by setting aside a part of your income. An emergency fund enables you to handle unexpected financial needs, without straining your regular cash flows or disrupting your financial plans.

What is an emergency fund?

An emergency fund is a reserve of money set aside to cover unexpected expenses or financial emergencies, such as medical bills or car repairs. It provides a financial cushion, reducing the need to rely on credit or loans during unforeseen circumstances and ensuring stability during tough times.

The Importance of an Emergency Fund

An indispensable reserve, the emergency fund is a crucial sum that should be set aside to address unforeseen circumstances. It acts as a safety net during critical moments or unexpected situations, rather than serving regular financial needs. Tailoring this fund to cater to unforeseen financial gaps relevant to your situation is imperative.

How to Build an Emergency Fund

Building an emergency fund is a gradual process, requiring consistent effort over time. Here are five key steps to help you develop a robust emergency fund:

  1. Set clear goals
    Start by determining the amount you want to accumulate in your emergency fund. Aim to save at least three to six months' worth of living expenses. This target will serve as a benchmark to guide your savings strategy.
  2. Open a dedicated account
    Create a separate bank account exclusively for your emergency fund. Keeping it distinct from your regular checking or savings accounts reduces the temptation to dip into it for non-emergencies, ensuring the fund remains intact.
  3. Automate your savings
    Set up automatic transfers from your main account to your emergency fund. By designating a specific sum to be transferred each month, you make saving a priority and consistently build up your fund without needing to remember to do it manually.
  4. Monitor and adjust
    Regularly review the balance of your emergency fund and assess whether it meets your financial goals. If your expenses increase or you receive a raise, adjust the amount you contribute to ensure your fund remains adequate for unforeseen situations.
  5. Use it wisely
    An emergency fund is intended for genuine emergencies, such as unexpected medical expenses, car repairs, or job loss. Avoid using it for planned expenses or non-urgent purchases to maintain its effectiveness in covering real financial emergencies.

How much should your Emergency Fund have?

Tailored to your earnings and expenditures, an emergency fund should ideally cover three to six months’ worth of your monthly income. So, if your monthly earnings is Rs. 50,000, and your routine living expenses amount to Rs. 20,000, your recommended emergency fund would fall within the bracket of Rs.1,00,000 to Rs.3,00,000.

Emergency funds can also be categorized into these two categories:

1. Long-Term Emergency Fund

A long-term emergency fund is intended to provide financial security for more significant and prolonged unexpected situations. It's typically built to cover extended periods of financial hardship, such as job loss, extended medical issues, or other major life disruptions. This fund is larger in size and can sustain you for several months to a year or even longer. The goal of a long-term emergency fund is to offer stability during times when your regular income might be severely impacted.

2. Short-Term Emergency Fund

On the other hand, a short-term emergency fund is designed to handle smaller, immediate, and short-lived financial setbacks. It's meant to cover unexpected but relatively minor expenses, like car repairs, medical emergencies that don't require prolonged treatment, or a sudden need for travel. The short-term emergency fund is usually smaller and acts as a quick buffer to address urgent financial needs without disrupting your regular budget.

In essence, a long-term emergency fund provides a safety net for extended periods of financial uncertainty, while a short-term emergency fund offers quick support for immediate unexpected expenses. Both types of funds contribute to your overall financial resilience and preparedness.

Explore Life Insurance policies

Life insurance policies offer dual benefit of protection and returns that makes them an attractive option for long-term financial planning. Whether you are looking to save for the future, secure your family’s financial future, or plan for retirement, these policies can be an excellent addition to your financial portfolio.

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Here’s a lowdown on five good practices to invest in an emergency fund

1. Determine the fund amount you need

Ensuring a disciplined cash management strategy can help you determine the amount of funds you can invest. With adequate cash reserves, you can set aside a good amount of funds to create an emergency fund. Here’s the best approach to help you get started:

Evaluate
Start assessing your monthly income streams and expenses, which will give you better clarity about how much you can save.

Save
Once you get a better idea of your monthly income and expenditure, you can look at ways to curtail additional expenses. Priorities your financial expenses and seek more ways to save your funds.

Invest
Any excess cash in your budget must be directed towards investments, so you can put your money to work for you.

2. Choose the right investment options

When investing to create an emergency fund, it is best to choose the right investment options that are:

  • Easily accessible
  • Earn higher returns on your savings
  • Safe from market fluctuations
  • Stable and reliable

You must choose safe investment options like fixed deposits, where you can look for stable returns, greater flexibility and safety.

3. Automate your investments

When creating an emergency fund, it is best to schedule payments from your primary account, so you can have a portion of your income diverted towards your emergency fund. This is especially helpful when you invest in recurring deposits, so you don’t have to remember to direct your funds towards emergencies each time.

4. Invest in Insurance

An insurance policy works as a safety net in case of emergencies, which enables you to handle situations like medical emergencies, theft or sudden home or automobile repairs. Choose a reliable insurance provider and be realistic in assessing your insurance needs with sufficient coverage.

5. Use only in emergencies

It is important to have well-defined criteria for using your emergency fund, so your instinct for instant gratification doesn’t result in the depletion of the savings you’ve accumulated over the years. Hence, creating an emergency fund requires greater financial discipline than fiscal prudence.

How to Save for an Emergency Fund?

Creating an emergency fund is an essential part of financial planning. To start saving for this safety net, follow these steps:

1. Set Clear Goals

Determine the amount you want to save. Financial experts recommend saving at least three to six months' worth of living expenses.

2. Create a Budget

Analyse your income and expenses to identify areas where you can cut back and allocate more towards your emergency fund.

3. Automate Savings

Set up an automatic transfer to your emergency fund each time you receive your paycheck. This ensures consistent contributions.

4. Reduce Debt

Prioritise paying down high-interest debts like credit cards. Once these are cleared, allocate the funds to your emergency savings.

5. Separate Accounts

Open a separate savings account or use liquid assets like money market accounts to keep your emergency fund distinct from your regular savings.

6. Windfalls and Bonuses

Any unexpected income, such as tax refunds or bonuses, should be directed to your emergency fund.

7. Regular Review

Periodically evaluate and adjust your savings goals as your financial situation changes.

Pro Tip

Create wealth and meet your financial goals with a ULIP investment plan, start investing from Rs. 3,000/month.

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How To Secure Your Emergency Fund?

Once you've saved for your emergency fund, it's essential to keep it secure:

1. Use Low-Risk Accounts

Place your emergency fund in a savings account, or short-term certificate of deposit (CD). These options offer both liquidity and safety.

2. Avoid Risky Investments

Keep your emergency fund away from risky assets like stocks or long-term investments. It's meant to be readily accessible without the risk of loss.

3. Regularly Monitor

Check your emergency fund periodically to ensure it remains at the desired level. If you dip into it for any reason, replenish it as soon as possible.

4. Set Withdrawal Rules

Establish strict guidelines for withdrawing from your emergency fund. Reserve it exclusively for genuine emergencies like medical expenses, unexpected home repairs, or job loss.

5. Communicate with Family

Make sure your family members are aware of the fund's existence and understand its purpose.

6. Replenish After Use

If you use the emergency fund, prioritise rebuilding it before focusing on other financial goals.

7. Review and Adjust

Over time, assess your savings goals and adjust the size of your emergency fund based on changes in your life and financial situation.

Income Tax Sections & Saving Tips

Section 80C of Income Tax Act

Section 80CCC of Income Tax Act

Taxation

Post office tax saving scheme

What is cess on income tax

Marginal rate of tax

Deferred tax liability

Exempt exempt exempt in income tax

Exemptions under new tax regime

How to save tax for salary above 10 lakh

How to save tax for salary above 20 lakh

How to save tax for salary above 30 lakh

How to save tax for salary above 50 lakh

How to save tax for salary above 9 lakh

How to avoid tax on savings account interest

Frequently asked questions

What is an Emergency Fund?

An emergency fund is a savings cushion set aside for unexpected expenses like medical bills or car repairs to prevent financial hardship.

Where can I build an emergency fund?

You can build an emergency fund in a high-yield savings account, or short-term CDs offered by banks or credit unions.

What is the first step to building an emergency fund?

The first step is setting a savings goal, typically three to six months' worth of living expenses, and creating a budget to allocate a portion of your income to savings.

What is the best emergency fund?

The best emergency fund is typically a high-yield savings account or money market account, offering easy access and modest interest earnings.

How much emergency fund is sufficient?

Financial experts recommend having at least three to six months' worth of living expenses in your emergency fund to cover unexpected costs and living expenses in case of job loss or other emergencies.

How much money do you need to build an emergency fund?

To build an emergency fund, aim to save an amount equivalent to three to six months' worth of living expenses. This range ensures you have a sufficient financial cushion to cover unexpected costs and maintain stability during emergencies.

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Disclaimer

As regards deposit taking activity of Bajaj Finance Ltd (BFL), the viewers may refer to the advertisement in the Indian Express (Mumbai Edition) and Loksatta (Pune Edition) furnished in the application form for soliciting public deposits or refer https://www.bajajfinserv.in/fixed-deposit-archives
The company is having a valid Certificate of Registration dated March 5, 1998 issued by the Reserve Bank of India under section 45 IA of the Reserve Bank of India Act, 1934. However, the RBI does not accept any responsibility or guarantee about the present position as to the financial soundness of the company or for the correctness of any of the statements or representations made or opinions expressed by the company and for repayment of deposits/discharge of the liabilities by the company.

For the FD calculator the actual returns may vary slightly if the Fixed Deposit tenure includes a leap year.

Disclaimer

*T&C Apply - Bajaj Finance Limited (‘BFL’) is a registered corporate agent of third party insurance products of Bajaj Allianz Life Insurance Company Limited, HDFC Life Insurance Company Limited, Life Insurance Corporation of India (LIC), Bajaj Allianz General Insurance Company Limited, SBI General Insurance Company Limited, ACKO General Insurance Company Limited, HDFC ERGO General Insurance Company, TATA AIG General Insurance Company Limited, ICICI Lombard General Insurance Company Limited, New India Assurance Limited, Chola MS General Insurance Company Limited, Zurich Kotak General Insurance Company Limited, Star Health & Allied Insurance Company Limited, Care Health Insurance Company Limited, Niva Bupa Health Insurance Company Limited, Aditya Birla Health Insurance Company Limited and Manipal Cigna Health Insurance Company Limited under the IRDAI composite registration number CA0101. Please note that, BFL does not underwrite the risk or act as an insurer. Your purchase of an insurance product is purely on a voluntary basis after your exercise of an independent due diligence on the suitability, viability of any insurance product. Any decision to purchase insurance product is solely at your own risk and responsibility and BFL shall not be liable for any loss or damage that any person may suffer, whether directly or indirectly. For more details on risk factors, terms and conditions and exclusions please read the product sales brochure & policy wordings carefully before concluding a sale. Tax benefits applicable if any, will be as per the prevailing tax laws. Tax laws are subject to change. BFL does NOT provide Tax/Investment advisory services. Please consult your advisors before proceeding to purchase an insurance product. Visitors are hereby informed that their information submitted on the website may also be shared with insurers. BFL is also distributor of other third-party products from Assistance service providers such as CPP Assistance Services Private Limited, Bajaj Finserv Health Limited. etc. All product information such as premium, benefits, exclusions, value added services etc. are authentic and solely based on the information received from the respective Insurance company or the respective Assistance provider company.

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