Wealth creation is a key objective for the majority of clients, but saving for an emergency supports financial wellbeing and can be just as important as investing for longer-term goals. By helping clients understand what they’re saving for when it comes to emergencies, this can help frame maintaining adequate cash and liquidity reserves as part of a broader financial plan to save for long-term goals.

As many clients feel the pinch from higher costs – at the supermarket checkout, on the petrol station forecourt or in their monthly rent or mortgage payments – advisers may find themselves speaking more often to clients about managing household liquidity.

Having a well-planned emergency fund for the unexpected can turn a potential crisis into a manageable setback. What’s the best way to balance a client’s potential emergency funding needs against their longer-term investment goals? How can you help them decide between the interests of their present self and those of their future self? Every client’s financial journey is different, and the best way to balance potential emergency funding needs with longer-term financial goals will be personal to each client. However, the framework below may give a useful discussion guide for conversations with clients.

Help clients understand the types of financial shocks

When planning for emergencies, it is important to remember that not all bumps in the road are the same. One aspect is safeguarding against spending shocks, whether unexpected healthcare costs, home repairs or other unwelcome expenses.

Planning for income shocks, which involve the unexpected loss or reduction of employment income, is equally important. These are rarer and, for some, may never occur at all. But without sensible financial planning, they can have a greater impact on a client’s overall financial wellbeing.

Each client’s approach to managing these risks should account for these differences. The risk of a spending shock should be managed by maintaining a surplus balance of cash or safe liquid cash equivalents. This may be done through a savings or current account, a money market fund or a combination of sources.

For income shocks, assets need to be liquid, or accessible at a minimal cost – but not necessarily free from market risks. Some clients who are uniquely exposed to income shocks may choose to have cash set aside. But for the majority of clients, it can be useful to rely on accessible assets invested as appropriate for their other long-term financial goals. The accessibility of these assets will vary based on account type and a client’s individual circumstances, notably their age.

For many clients, safeguarding against an income shock could also mean having some form of financial protection in place to fall back on should an illness or injury render them unable to work or they be made redundant.

Some employees may have valuable benefits through their employer, such as sick or severance pay, but careful consideration is required to see if these fully meet the client’s needs. The self-employed lack the security of an employer safety net and extra care is needed to protect them from an income shock.

Assess their risks and define their savings targets

While all shocks are by nature unpredictable, spending shocks are more likely to occur as a matter of course and are an inevitable part of life for most people. Income shocks, on the other hand, are generally expected to be less frequent.

Working with clients to evaluate their risks and helping them set aside an appropriate amount of savings in readily accessible accounts can help mitigate the potential harm of unanticipated expenses. It can also help them avoid expensive emergency financing while offering peace of mind.

For spending shocks, one rule of thumb is to keep the greater of £2,000 or half a month’s expenses in a bank account to cover these one-off expenses.

When it comes to an income shock, however, they may want to set more aside. While the rule of thumb of holding three to six months’ worth of expenses can be a reasonable starting point, a number of factors can affect clients’ liquidity needs. These can include their level and variability of income, number of dependents, job security and skill transferability.

Balance emergency savings with clients’ other goals

While surplus cash and cash equivalents can help clients deal with spending shocks, holding too much in cash can be a drag on a portfolio’s ability to meet their long-term financial goals.

Helping clients choose whether to save for retirement or build up a contingency fund can be challenging. Strategically planning and creatively using flexible account types can help clients maximise investment opportunities while maintaining a prudent level of liquidity.

The first step towards helping clients balance emergency savings with their other goals should be to ascertain what they already have. Their primary source of emergency savings will be anything held in cash accounts beyond their month-to-month cash-flow needs. After assessing what a client has, it then often makes sense to look at their other accounts to understand what is accessible and what is not. This will depend in part on a client’s individual circumstances.

For each account and asset, it can be useful to help clients think through what the costs and consequences will be if assets have to be sold in an emergency. Costs could include taxes, penalties, and transaction fees – but importantly also include the opportunity cost of spending from accounts that are supporting future financial goals.

Key takeaways