How to Manage Emergency Funds if you are a Business Owner? Read here.

Emergency Funds & Their Need

Emergency funds or contingency funds are the liquid investment accounts that various corporations maintain to use in dire times. Daily operations do not affect such assets. These can be understood as financial safety accounts procured for rainy days when there is a lack of cash flow or other emergency needs.

As small businesses strive to be at par with tough economic times or in an attempt to expand the business, lack of finances can be a setback. Especially in times of unforeseen conditions such as the COVID-19 pandemic, a requirement of emergency funds has resurfaced. Such emergency funds are required in such dire times to keep the operations afloat. It is no hidden fact that erratic cash flow is a big problem for small business owners.

Being on a small budget comes with its problems. Finding the money to invest in your emergency fund is always challenging. There are various ways to set aside some capital without affecting your available cash dramatically. We have listed some ideas here. If you are looking for ways to save up some more or set up an emergency fund for your business, these tips will surely prove helpful.

Know How Much You Will Need

The fund may vary in size depending on a variety of variables, such as wages, lifestyle, presence of dependents, current debt, etc. An emergency fund can be four to five months of your monthly budget, depending on your revenue and expenditures. First of all, find out what 'important' expenditure constitutes and what portion of your revenue goes into the fund. Comprehend your non-negotiable expenses. In the case of a business emergency, prioritise what needs to be covered that will help you set a target on what your emergency fund should have in it. Experts have different views on the number of reserves you can hold, and it depends largely on the other factors that influence your business, as well as your operating costs. You may also opt to split your emergency fund into two classifications:

Long term emergency funds
Short term emergency funds

Research and set how much you need to keep your company going in the worst-case scenario. Plan and place a target for your business emergency fund and strive to achieve it. Take small steps towards it.

How To Set Up Your Emergency Funds?

At first, it might seem like a giant task to set aside a few lakhs for your emergency fund, but you will surely get there with a little preparation, financial knowledge, and a step-by-step approach. Always remember every step counts. Here are a few quick tips for taking your baby steps:

Set up small targets

Stagger your objective into smaller palatable monthly deposits until you are sure of the amount of money saved that suits your business the best. You can start with a daily habit of keeping aside a few cents, move to weekly goals, and then to monthly ones. This way, you will slowly move towards saving without fretting.

Keep a separate account

This stems from the principle of out of mind, out of sight. This way, you will not be tempted to spend the cash to be saved. You can save your money in liquid mutual funds or short-term debt funds.

Pay yourself for the future first

As you keep your money aside for other financial goals, such as retirement or saving for a home, set aside a small amount of money per month for the emergency fund as soon as you are paid.

Cut down your expenses

Spending your money on unwanted stuff will only make you more broke and unprepared for the unforeseen future. Stopping yourself from purchasing unwanted stuff will help you reach your savings goals faster and maybe increase your monthly allowances.

Reallocate lump sum receivables

Set aside a small sum for fun and enjoyment and assign the balance of your bonus to your emergency fund. It will help fast track your objectives and also include some windfall benefits.

Consider all the worst-case scenarios possible over three years for your business

Try to look for the unforeseen for your business already so that you are always prepared for it.

In every growing business, miscellaneous and unplanned expenditures occur

If this is something like an economic transition or a lawsuit, you should be actively preparing for the worst and add this to your anticipated loss or profit. If you finish the year and there are no miscellaneous costs, this will be an added cash flow bonus that can be reinvested in the company.

Manage Your Emergency Funds

Just saving the money for the fallow days is not enough, strategise your savings plan, and implement it will-fully. While you develop an emergency fund, there are a few vital things to look at:

Security

Putting away money in this fund is for supporting the business through a challenging situation. You must not deploy it in the short term where there is a chance of capital loss. Any high-risk options, such as equity/equity-based mutual funds, must be avoided.

Accessibility

Sometimes, an emergency may hit rapidly. An emergency fund will be rendered useless if it cannot be accessed at the right time. Ensure that your emergency funds are easily available so that you can take care of any urgent expenses.

Liquidity

It is an important aspect. The term refers to the ease of turning the assets into cash. Long-term deposits such as shares, Provident Fund (PF), National Savings Certificate (NSC), etc. cannot be liquidated before the maturity period. In some cases, you might lose some money or may have to pay high fees.

Cash

Always hold 15% of the money in cash. Keeping too much cash handy is not advised for security purposes. Also, idle cash loses value over time.

Bank deposits

15% of the savings can be made safely with a trusted bank. The risks reduce, and you also receive a small amount of return on the funds.

Investment balance

You can comfortably invest 70% of your emergency funds in either short-term deposits or some liquid mutual funds. These options are safer and more liquid.

In the time of a crisis, an emergency fund dedicated towards your business will make a sea change and save you from drastic financial setbacks. Like any other financial target, setting up an emergency fund will be difficult and met with setbacks at every step. Always remember why you need it and use your money judiciously.

How To Use Emergency Funds?

Although it is not at all fun to imagine a day that can harm your business, and that is what makes it important to think about it. So, that if anything on the downside happens, you are prepared. Determine where and how the emergency fund is to be maintained. Any case where your revenue does not exceed your costs, and you find yourself unable to cover the gap by any means is when you need to use your emergency funds.

Where To Use Emergency Funds?

Once you have set up an emergency fund for your venture, you should not give up on it, in cash or a bank account. Your emergency fund should be liquid enough and easily accessible. You must invest your emergency fund in a way where you can earn some extra coins on it and also liquidate it when required. Spreading out the emergency fund through liquid assets, short-term RDs, and debt mutual funds would be the best thing to do. Some of the events wherein you can use these emergency funds include:

A market declines due to a recession or lack of interest in your product or business.
The loss of a big customer who made up a large portion of your business.
The main employee's absence would result in a loss of revenue or take a large amount of time and resources to replace it.
The inability of the owner or key worker to work because of illness or other problems.
A lawsuit—a rare but probable occurrence.

Retrieving Emergency Funds

As far as liquidity is concerned, many liquid funds allow up to Rs. 50,000 or 90% of the amount invested in being immediately redeemed. You can redeem it at any moment. They will immediately credit the money to your connected bank account. To make sure the fund house allows it, look for this instant redemption facility before you invest in a liquid fund. This way, you can ensure easy accessibility while enjoying high returns by spreading your emergency funds through various avenues.

In the end, we advise you to have capital on hand. Keep 10% to 30% of the annualised income in the bank, which is equal to saving expenditures in the event of an emergency for three to six months. It will help you make good choices, not the reactive decisions undertaken in the sense of economic uncertainty. It is always better to take precautions because precaution is better than cure.

Also read:
Best Tips for Customer Retention for a Small Business
10 Best Ways to Promote Your Small Business
All About Small & Medium-Sized Enterprises (SMEs)
Saving Schemes in Post Office: Types, Benefits & more

FAQs

Q. How much money should I keep as an emergency fund?

Ans: You should keep three to five times the total investment you may need in a month as an emergency fund. It is essential to avoid any sudden risk or unfortunate unemployment. Calculate the payroll of your team members first and add the other requirements later. It is your primary monthly investment that must not fail in any condition.

Q. Should I ever consider a credit line as an emergency fund?

Ans: It is advisable to put a credit line as your last resort. It is essential to pay your credit debts on time, which averagely charges a high percentage. Now, in an emergency, taking the help of a credit line may increase your already existing debt. Without profits or any other funding, shortly may cause an extreme situation of debt payment failure.

Q. Where should I keep my emergency fund?

Ans: It is crucial that wherever you keep your emergency fund, you must keep that in Liquid form. It ensures that you have access to the fund quickly. Also, ensure that cash in hand is held separately from the emergency fund. You may check for Recurring Deposit schemes for a particular time. It will be beneficial to you as the interest rate of RD is a bit more than the other resources.