The importance of having an emergency fund

An emergency fund is your most important savings priority.

emergency fundThanks to a collision with an uninsured driver and vet bills due to a dog with a penchant for swallowing bouncing balls, our household was faced with thousands of rands worth of unexpected expenses within one month.

Without our emergency fund we would have had no choice but to go into debt, so it is not surprising that a recent survey by short-term moneylender found that the number one reason for people taking out a personal loan was to pay for unexpected expenses.

The survey, which was conducted among more than 12,000 Wonga customers in South Africa, found that nearly half (45%) of respondents have used a loan to cover an unexpected and important expense.

According to the survey results, the top reasons for applying for a loan include: essential household items (22%), urgent bills (18%), school/college fees (14%), motoring costs (12%), utility bills (10%) and dentistry/medical expenses (7%).

When asked whether their monthly salary covers their monthly expenses, 43% of respondents answered ‘yes, unless there is an emergency (e.g. car breaks down)’, while 36% answered ‘always’ or ‘usually’.

Kevin Hurwitz, Chief Executive Officer of SA says while one could argue that costs such as school or college fees should be budgeted for, it is clear that most loan applications stem from unforeseen incidents, rather than for frivolous purposes.

According to the 2012 Financial Literacy in South Africa report commissioned by the Financial Services Board (FSB), less than one-third of South Africans reported setting aside emergency or rainy-day funds that would cover expenses for at least three months. As Hurwitz points out, this lack of financial awareness paired with the rising cost of living means most people are simply not budgeting for a rainy day.

The cost of not budgeting are high, as emergency loans are usually the most expensive kind – you need the money immediately so you take it on whatever conditions are offered, in other words at whatever cost. Wonga loans for example are one-month loans so you would have to pay it back with interest and charges the following month – yet you couldn’t meet those expenses this month.

Anyone who is serious about beating the debt cycle has to start building up an emergency fund, even if you are just starting with R100 per month. While paying off high-interest debt should be a priority, you also need to create a financial buffer for emergencies so that you do not have to tap into more expensive debt. It is not just about paying off debt but also protecting yourself from the need to go into debt.

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