Your Money Journey: Your Rainy Day Kitty
*** This is information only and not advice. Please reach out to an independent advisor for specific advice.
So, you’re looking into your finances, and you’re wondering if you have your financial house in order. Great question! In my previous post, I talked about the need to understand and know what your current financial situation is. If this is not done yet, I would recommend investing a bit of time and gathering the data to do it. In a nutshell, you should have a decent idea of your savings and debts, as well as incomings (salary) and outgoings (spending).
Are you prepared for a sudden drop in income?
This is not a pleasant thought to be having, but remember that you will feel relieved and a great sense of achievement once you have dealt with this crucial issue!
Let’s say you have an unplanned pregnancy. Probably happy news, but at the same time, you have to deal with new unexpected expenses and a potential loss of income from your maternity leave. What about if there is a virus shutting down the country for weeks on end and businesses start to lay off people (hypothetically)? What about a car or boiler breakdown? Scenarios abound where there are unexpected large expenses or losses of income or spare cash. Would you be able to financially cope if you lost some or all of your income?
Would you be able to cope financially if you lost your job?
According to StepChange, in the UK, 14 million people experienced at least one income shock in 2015. So, this is pretty common and can lead to debt issues because of the use of credit cards to deal with the loss of income.
Income protection and critical illness insurance:
This type of insurance deserves a full post, but I can’t fail to mention it here. Some employers offer this as part of their benefits package. Critical Illness cover provides a lump sum benefit in case of a serious disease, that you can use to repay your mortgage for example. Income Protection Insurance provides a regular income if you lose your job or can’t work. Payment Protection Insurance (PPI) has had bad press due to the mis-selling scandal, but it can be helpful, by covering monthly loan repayment if your income drops due to unemployment, accident or disease.
(Please do get advice before taking up any such insurance.)
However, even if you have such coverage, it typically kicks in after a few months, commonly 3 months. In the meantime, you still have to pay your bills.
This is another reason why you should aim to have at least 3 months’ worth of spending set aside, to help you get through unpredictable life events.
How much are you spending?
It can be tricky to answer that question. Ideally, you want to know the exact amount you’re spending. You could go through your bank and credit card statements. Don’t forget that some of the insurance coverage you have might be part of your employer-provided benefits. Make sure your factor that into your calculations.
Otherwise, make a budget (it’s not as scary as it sounds). Basically, estimate the following items:
- Rent/Mortgage payments
- Council tax, service charge, Electricity, gas, phone bill
- Loan and credit card payments
- Food, coffees
- Transportation (tube, bus fares, petrol)
- Insurance premium payments
- Memberships (e.g. gym, magazines ) & other activities (e.g. going out, traveling)
Lastly, there is the quick and dirty way: Monthly salary or income — (Minus) Savings or remaining cash at the end of the month.
How much should you actually put aside?
Rule of thumb, start with 3 months’ worth of spending.
Now, ideally, you want to understand what type of income shock you might experience, and how your income will change after that.
Bear in mind that it takes on average 3 months to find a job according to the job site Indeed. Unfortunately, it may take longer in times of economic crisis, and will also depend on your skillset, your seniority and on the industry.
You have a number for how much money you spend every month. The exact amount that you might need depends on your circumstances, and you know better than anyone else the sort of shocks you might go through.
For example, if you’re employed and worried of losing your job*, you should think about the following:
- How long would it take you to find another job?
- Would it be the same level of income?
- What’s the redundancy pay that you can expect?
- Will you be able to access a new source of income, e.g. benefits or pension?
- Can you downsize your spending quickly?
Essentially, you need to figure out your new level of income following the income shock you’re worried about (in this case, job loss).
If you are self-employed, then it’s even more crucial for you to have that savings safety net. And by the way, you should also have periods of low activity baked into your fees.
Of course, if you have dependents, then you should aim for a larger sum to be on the safer side. Your flexibility and ability to adapt decrease once you have children.
Cash is king!
Finally, make sure the money is in a liquid easily accessible savings or Cash ISA account.
If you really want to invest it, bear in mind that when the s*** hits the fan, the markets will collapse and you’re likelier to lose your job too… so make sure this money is invested in liquid, easily accessible investments, like trackers of major indices. You need to be able to sell it quickly to get the funds in case of an emergency. Avoid investing it all in one company or asset. Also, allocate 20–30% more than you need to account for a potential sudden drop in the market.
In summary, make sure you have set aside at least 3 months of spending that you never touch, to weather the storm should you have an income shock.
Please do leave me a comment if you like this post, dislike this post, or have any additional useful information or comments!
* On Redundancy
Remember, in case of redundancy, you’re entitled to a consultation period to discuss your options, a notice period on full pay, and statutory redundancy pay. These payments depend on the length of service.
You can check your rights on the government’s website.
You can also get FREE advice on your employment rights from ACAS (The Advisory, Conciliation and Arbitration Service).
A few good links:
- You redundancy rights: https://www.gov.uk/redundancy-your-rights
- ACAS provides Free advice on employment issues: https://www.acas.org.uk/redundancy
- Critical illness insurance: https://www.moneyadviceservice.org.uk/en/articles/critical-illness-insurance-do-you-need-it
- Income protection insurance: https://www.moneyadviceservice.org.uk/en/articles/do-you-need-income-protection-insurance
- Payment protection insurance (PPI): https://www.moneyadviceservice.org.uk/en/articles/do-you-need-payment-protection-insurance-ppi
