Two events happened just in the last one month that made me check up on my emergency preparedness. 1) The Jet Airways collapse that rendered over 16,000 employees jobless and 2) A school-mate met with a terrible bike accident resulting in multiple fractures requiring expensive surgery.
I’ve always been a big proponent of insurance but the second incident made me realise that insurance is not enough. Because there is both hefty hospital costs and loss of income from an extended year-long hospital stay.
In the case of my schoolmate, he had health insurance but the insurer shockingly denied his claim. So his wife and daughter in 12th standard were forced to find cash to meet the hospital expenses that had touched Rs 10 lakh within a week. They were able to gather only half the amount on short notice and so a batch-mate posted their predicament on our school WhatsApp group where a bunch of us pitched in via crowdfunding.
I’ve personally faced this unethical behaviour with US insurers also where the insurer refused to pay for emergency appendectomy finally settling it in my favour after 1.5 years of arbitration. The lesson here is that you might have to fight with insurers to honour the claim. But in the case of health emergency one may not be able to wait as you may need cash right away to tide over the immediate emergency.
So the big question I am posing and partly answering in this blog post is – how can you prepare yourself financially for multiple simultaneous emergencies like job loss, accidents, surgeries, etc?
The cascade effect: How one emergency leads to other emergencies
Usually emergencies have a cascading effect like an accident that requires expensive and long hospital stay plus recovery. This causes a job loss or income loss as no employer can pay salary for longer than the medical leave period. Without job income you are not able to service home loan EMI and lose your house. Also an accident probably wrecked your vehicle which needs replacement. If the accident was your fault then you need to pay the extra amount beyond the liability cover in your vehicle insurance. Finally after recovering health-wise you have to spend time looking for a job.
Emergency fund first – before EMI or SIP
As soon as someone gets a job, Indian society puts pressure on them to take a loan – bike, car, house, phone, etc or to start a mutual fund SIP because everyone tells you to start investing early. The car and house will go back to the bank if you miss EMIs because you got fired. What is the point of investing SIP for retirement if you are out of a job for one year struggling to meet expenses? Your EPF deductions are good enough for investing until you finish saving up your emergency fund. Don’t fall into the loan trap for the first 1-3 years of your new job. The smarter thing to do is to build up your emergency fund right from your first salary. Save 50 percent of your salary towards emergency fund so by the end of the year you have one year’s expenses saved up. This one year’s expenses should also include any EMI payments towards education loan or house loan. This way you don’t have to worry about losing your job and also losing your house or other collateral.
Your social network is also a safety net
Ask yourself: If you lose your job today how many people will readily recommend you for another job? This is an asset that no amount of savings can buy. If you are an introvert or have lost touch with your college buddies or old work friends then make a serious effort to re-connect. Instead of blindly friending your old buddies on LinkedIn or WhatsApp, try and help other people in your family or network with job opportunities or advice while you are still employed. That is the best way to build up karma that will help you in your time of need. Your network can only open the door but only you have to clear the interview using your up-to-date skills and experience.
Buy insurance outside of your employer
The most important thing here is to buy health insurance policies outside of your employer’s group insurance plan. Typically group insurance covers don’t meet your growing needs plus you might lose the cover when you lose your job… a double whammy! Understand how the claims process works in your health insurance and educate your spouse also during the annual renewal time so you can claim it correctly – typically it will involve getting a pre-authorisation for major surgeries or procedures even during medical emergencies.
Nothing beats having liquid cash in fixed deposits. But someone starting out in their career may not have Rs 10-25 lakhs lying around to pay hospital bills. So get insured for 1.) health insurance 2) critical illness cover for cancer, etc 3) life insurance and 4) accident insurance because paying premiums is cheaper than saving up the amount yourself. Even if you had that much cash, it is still better to buy insurance because it protects your wealth. Insurance protects you every year you pay premium without having to dole out Rs.10 lakh every year for expensive medicines or surgeries.
Get a credit card with a high spending limit
Credit cards are a great way to get one month of free liquidity provided you are in the habit of paying off the full amount due every month and also have the funds to back up the spending. If you are not able to access your FDs for some reason, this is your only alternative. Of course you can’t get a credit card on Day One with a high spending limit. You need to get your first card, then pay regularly and ask for an increase in spending limit based on your repayment and spending track record with the card issuer.
Save one year’s emergency fund – liquid
The final step is to build up your own cash reserve without relying on outside parties to front it. Your emergency fund should be available instantly in times of need – 24×7, without filling forms or waiting for approvals and without risk to principal. You also need full access and full control of your emergency fund. That pretty much leaves only one option: fixed deposit. Make sure to have the emergency FDs in joint name so either spouse can break the FD. Download the bank app on your phone so you can break the FD day or night while you are at the hospital or anywhere you need to transfer cash urgently. To ensure that the emergency fund keeps up with inflation, keep rolling over the FD along with interest earned whenever it matures.
What you want with an emergency fund is the feeling of security that all of it will be there when you need it. Any financial instrument that is exposed to the market cannot give you that security.
One warning about FDs is the government’s recent misadventure with the FRDI bill which proposed to use bank deposits to bail out failing banks without increasing deposit insurance first. Since the government has demonstrated that there is a risk to a principal even in FDs either due to bank failure or government action during a financial crisis, you can consider spreading out your emergency fund in low-risk liquid funds. But there is no guarantee that the entire principal amount will be available during a financial crisis. Seems like there are no guarantees anymore regardless of where you park your money. Unless you dig a hole and hide it in your backyard)
Simple methods to start your emergency fund
If you don’t have an emergency fund worth one year of expenses, then you need to be smart and use insurance, credit cards (only in emergency) to buy yourself protection from immediate harm while you diligently save up cash reserves to last you for one year.
Don’t be overwhelmed by the amount – target one month of expenses first. Then two months. Then three months. Just three months of savings may be enough during a good economy to handle job loss if you get fired. Next, target six months of expenses. You can handle a mini-medical emergency with six months of expenses. If you are still employed, target nine months to one year of expenses. With this much saved up you can handle a major downturn in your industry like Jet Airways collapsing and leaving 16,000 employees to fend for themselves.
If no emergency happens in the first year then start saving towards 25 years’ expenses to achieve full financial freedom from the job market. Do you now understand the relationship between emergency fund and financial independence (FIRE)?
Hold emergency fund jointly with your spouse
How many times have you heard of a situation where the spouse meets with an accident, in ICU, in no physical condition to even sign a cheque to release funds that only they have access to? We personally know two such cases. Simple solution is to park the emergency fund in a joint account in the name of both the partners so either partner can withdraw in time of a need. This is critical if only one spouse handles all the finances. Make sure the bank app is on both your phones for 24×7 access.
Use Password Manager software to share logins with spouse
Think about all the websites where you login regularly that your spouse doesn’t know the password to: mutual funds, banks, credit cards, EPF, life insurance, etc. Imagine you are in the ICU or have passed away – your spouse on top of grieving has to figure out how to get access to all these websites either to pay hospital or household expenses. All of these entities will require paperwork like death certificate to allow the legal heir access. In the case of indefinite coma, I don’t think there is any easy/timely legal solution to allow the next of kin access to financial accounts. You can use software like OnePassword to share your passwords with your spouse and save your family avoidable stress and mess.
Dipping into retirement savings, personal loans, loan against property, etc
The whole point of emergency fund is to protect your assets from a nasty surprise. If your emergency goes beyond the basic emergency plan above, then it may be time to dip into the rest your savings. See here for a good plan. When your house is on fire, you don’t search for waste water to fight the fire. You use whatever water you can find nearby even if it is Ganga Jal to douse the fire and save your house first. Your goal should be to recover your earning potential by getting over the immediate emergency. Once you recover your earning potential, you can replenish all the savings you had to withdraw. I personally don’t recommend taking loans in an emergency since the loan interest rates are so high in India that you will be digging yourself into a deeper hole with no income to service the EMI.
The ultimate weapon – 25 years' expenses
From saving one year of emergency fund to getting started on saving 25 years' expenses is a matter of connecting the dots. It is harder – yes! but not impossible if you choose mutual funds via SIP instead of an apartment via EMI . The benefit of 25 years of expenses saved up is that no matter how big a financial crisis or a multi-year emergency, you can weather it safely with a 25X corpus.
Share your emergency plan with us
Readers – what is your emergency plan and preferred financial instrument to save emergency fund? Please share the knowledge.
Sugandha and Naren are a Digital Nomad couple living in Goa, India, striving to F.I.R.E by 45. This article was first published on SavingHabit.com and can be accessed here.
First Published: IST