When my husband and I bought our house, we had to move heaven and earth to pull it off. And by “move heaven and earth,” I mean “spend lots of money.” This purchase nearly wiped out our emergency fund, which according to every personal finance blog out there, meant we were breaking all the rules. Even though I knew this was all part of our financial plan for various reasons, we were still breaking the mold.
This event shifted how I think about the cash that we need to keep on hand to handle short-term financial setbacks. Most people focus all their attention on an emergency fund, when what they really need is an emergency plan. So what does an emergency plan look like for someone who also broke the mold? Meet Lana, a client who I made up but whose issues are shared by many of my real-world clients.
The “I’m Quitting and Starting My Own Company” Fund
Lana is a high-earning executive at an advertising agency and mother to a 3-year-old daughter. She is established in her career and in a stable position at her company. As such, she is less concerned with getting laid off and more concerned with the possibility of wanting to take some time off to spend with her daughter, switch companies or strike out on her own. Her cash and bonds should be influenced by how likely any of these scenarios are and the estimated length of time that any event would really last. Lana felt like none of these was a real possibility, so I advised her that keeping six months of living expenses in a checking account would be overkill for her and would be leaving money on the table.
Keeping a Paycheck in Case of Injury or Pregnancy
A real issue for Lana is her ability to keep her income in case she is unable to work. She could get sick or injured in an accident, or decide she wants to have another child. To help with these potential situations, I advised her to get both short- and long-term disability insurance to cover her until she is able to get back to work. This will keep income coming in while she has time to recover and not need to rely on her savings. Whether it’s a private plan or through her employer, she’ll want to pay for the policy with after-tax dollars to make sure that any benefits paid out aren’t taxable (consult your advisor or CPA for details on taxability of disability insurance benefits and premiums).
Do I Really Need to Spend What I Spend?
If she really needed to, what expenses could Lana cut? Dinners out, travel and shopping trips could be the first to go, but the more fixed expenses she has (think mortgage and car payments), the less spending flexibility there is. Should her finances hit a rough patch, having the ability to cut some expenses should be a part of her plan. This spending flexibility can give her some more breathing room as she figures out what her next move is.
I’m not saying that no one should have cash saved up for a rainy day. Rather, everyone should assess (and have their financial advisor chime in on) what their unique needs are to see what their short-term emergencies could look like. An emergency plan is more than just an emergency fund.