Importance of Emergency Corpus – The Economic Times

Importance of Emergency Corpus – The Economic Times


Life is full of unexpected situations – good and bad and one never knows when you could face a rainy day!The prolonged lockdowns due to the Covid-19 pandemic has made us realise that our income can reduce drastically due to unplanned external situations like home repairs, family emergency, unexpected travel or even a job loss.Hence, the need to create an Emergency Fund.The amount of money required to build a proper emergency fund is certainly significant especially in uncertain times and one must approach this effort in the same manner as you would approach any other financial goal. An emergency fund may be equal to half of your last year’s income.For example,if you have earned Rs. 6lakhs in the past 1year,then your emergency fund should be in the range of Rs.3lakhs.

You may divide your emergency fund into 2 categories:

Short-term emergency funds

This is the fund you need in cases of emergencies like home repairs, unexpected travel, health problems of family members etc. Such a fund can remain in cash or in the savings account.Ideally 1lakh out of the 3lakhs can remain in this.As this is for immediate accessibility,which in case of extreme situations can suffice till you gain access to your long-term emergency funds.

Long-term emergency funds

This is for large-scale emergencies like a major natural disaster like Covid,job loss or a medical emergency or even when you would want to quit your job to take on the reins of an entrepreneurial venture.This fund should be invested in liquid funds or short term debt funds.Here you will earn slightly higher rate of interest than savings account say 6% pa and will take one working day to liquidate.

Let’s take one step forward:

We are all familiar with SIPs(Systematic Investment Plan) -here we invest a fixed amount every month and with the help of rupee cost averaging build a sizeable corpus over a period of time.But for professionals who have variable income,how can they commit a fixed amount every month?

Here is a simple solution-Professionals can use STPs instead of SIPs.STPs or systematic transfer plans help in transferring a fixed amount every month from a fixed income/debt fund to an equity fund of the same fund house.

How does it work?

Say you have shortlisted a Mid-Cap fund of a fund house to invest Rs 10000 every month.Then choose a corresponding debt fund of the same fund house,say a Short term bond fund and start transferring your surplus into this fund.The debt fund works like a reservoir to hold your funds.When the short-term fund reaches a fund value of Rs 30000,start a STP of Rs 10000 to Mid-cap fund.The STP will continue till such time the reservoir is filled.Keep transferring your surpluses to the short-term fund and the pre-set STP process will continue to do the needful.

Short term funds generally have no entry or exit loads and the transfer will be done on any fixed date of the month.One can even choose weekly transfers. You get best of both the worlds;parking surplus funds in short term funds and earn 6% pa returns,transferring a fixed amount periodically to an equity fund and earn more than 12% pa.

This STP concept can also be extremely effectively used by investors who do not wish to lose their hard-earned money.Just invest your surpluses into a debt fund and transfer the appreciation into a corresponding equity fund.This facility is offered by all mutual funds in India.This way,one can invest in a secure debt fund and make say 6% pa return with almost no risk.This 6% pa when transferred systematically to an equity fund, can earn 12% pa.Starting from a base of Rs.100,one can build a parallel equity corpus of Rs 100 from the appreciation of debt funds in 10 odd years and earn an average return of 8% pa post tax.

To summarize,emergency can come anywhere, any time with anybody.So,we never know when we might need the contingency fund.It is best to keep saving money for your emergency along with the future.Remember,it is not money that matters it’s how you use it that determines its true value!

Views are personal:The author is Soumyajit Ghosh, Director -Wealthapp Distributors

Disclaimer:The views expressed are of the author and are personal.TAML may or may not subscribe to the same.The views expressed in this article / video are in no way trying to predict the markets or to time them.The views expressed are for information purpose only and do not construe to be any investment, legal or taxation advice.Any action taken by you on the basis of the information contained herein is your responsibility alone and Tata Asset Management will not be liable in any manner for the consequences of such action taken by you

Mutual Fund investments are subject to market risks,read all scheme related documents carefully

Disclaimer: Content Produced by Tata Asset Management

Source link

Add a Comment

Your email address will not be published.