None of us knows what life will bring. All of a sudden, your ability to generate income may be severely restricted by an illness or injury. In the past few months, my office has worked with several individuals in the real estate investing arena who found themselves in that situation. One of them, because of a back injury, was unable to work for four months. Another was incapacitated for well over a month from being involved in a nearly-fatal car crash. Fortunately, these individuals had an “emergency fund” from which they could draw money while getting back on their feet.
From what I’ve seen in my experience, many entrepreneurs do not have the adequate reserves needed to cover their operational cash needs and living expenses for 60, 90, or even 180 days if something adverse happened to their health or ability to work.
I understand that most of us aspire to get to the point where we have enough “passive” income so we don’t have to trade hours for dollars, but until we get there (and even after), it’s imperative that you maintain some sort of emergency fund. This is more important than ever before given the escalating cost of insurance, taxes, building materials, supplies, labor costs, etc. Those rising costs will make it more difficult to afford to hire someone to replace you on a job if you are suddenly unable to work, especially on something such as a house rehab, for example.
Reserves are also helpful in the event there is a significant economic slowdown and you experience a huge drop in pay, as many commercial real estate brokers are beginning to experience.
I want to caution you regarding relying on a line of credit in lieu of having actual cash in an emergency fund. Remember, banks can close lines of credit when you least expect it and when you need them the most.
I hope you apply this information to your business so you can sleep better at night knowing you have a cushion in case the unexpected happens.