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How to Create Foolproof Financial Safety Nets

Unexpected hardships can create big money problems. These ten financial safety nets will help you survive life's challenges so you can be prepared, not scared.

By
Laura Adams, MBA
Episode #614
financial safety net

Most people know what it’s like to get caught short without enough cash in the bank due to an unexpected financial hardship, such as having a big medical bill or losing your job. Life and money are both unpredictable.

While having a positive mindset is key for success, it’s also critical to prepare for potential money problems. A big part of having healthy finances is building safety nets to protect you and help reduce stress. Just like a smart acrobat would never cross a high wire without a balancing stick and a big, strong net stretched out below, you should never go without financial safety nets.

Life and money are both unpredictable.

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Let's review ten types of safety nets you can create that will help you and your family survive and even thrive despite a financial hardship.

10 financial safety nets for your personal finances

  1. Emergency fund
  2. Health insurance
  3. Disability insurance
  4. Home or renters insurance
  5. Life insurance
  6. Retirement account
  7. Reducing debt
  8. Multiple income streams
  9. Automation
  10. Professional help

Now, we'll take a closer look at the 10 financial safety nets you should start building today.

1. Emergency fund

It’s probably no surprise that having an emergency fund is my number-one recommendation for staying out of financial trouble. It’s also known as a reserve account or a safety net fund. The idea is that we all need extra money set aside to stay safe from the unexpected. If you don't have a financial cushion to fall back on for a large expense or a sudden cut in income, it could take years or decades to recover from a crisis.

Of course, not having enough money on hand to pay for an emergency is how many people get into credit card debt in the first place. If you make card charges that you can’t afford to pay off quickly, interest on the balance grows every month, and you could end up owing double or triple the amounts you initially charged.

Having enough money at your fingertips for emergencies should never be thought of as a luxury. Building up a reserve should be a top priority, so you’re never backed into a corner, financially speaking.

Building up a reserve should be a top priority, so you’re never backed into a corner, financially speaking.

Not only does having a safety net protect your finances, but it also gives you incredible peace of mind and eliminates stress.

Keep your emergency money in an FDIC-insured bank account, so it’s completely safe. No, you won’t earn much interest, but that’s not the goal for this bucket of money. Having funds available at the moment you need them is what having a cash reserve is all about.

Ideally, you should have at least three to six months’ worth of living expenses in the bank. However, depending on your work and family situation, you might need more or less.

If you haven’t started saving emergency money yet, I know it can seem daunting. Don’t worry; just get started by taking small steps every month. Make a goal to accumulate $100, then $500, and $1,000, as quickly as you can.

2. Health insurance

In addition to having money in the bank, there are a variety of insurance products that were designed to be financial safety nets. Health insurance is essential for maintaining both your physical and your financial health, even if you’re young and healthy right now.

The problem is, even a quick trip to the emergency room for an illness or a broken bone could leave you with a substantial medical bill. Being uninsured and having a serious health condition could be financially devastating.

Even a quick trip to the emergency room for an illness or a broken bone could leave you with a substantial medical bill.

Depending on your income and family size, you may be eligible for government assistance to reduce the cost of health insurance. You can learn more at healthcare.gov.

Another way to save money on health insurance is to choose a high-deductible health plan. These products reduce your premium and also make you eligible for a tax-advantaged health savings account. However, as the name implies, they do have a higher-than-normal deductible, which requires you to pay more out-of-pocket before benefits begin. So, they make sense to have when you’re in relatively good health.

3. Disability insurance.

There’s a shocking statistic from the Council for Disability Awareness that one in four of today’s 20-year-olds will have an injury or illness that causes a long-term absence from work before they retire. And when a long-term disability occurs, the average absence from work is more than two years.

One in four of today’s 20-year-olds will have an injury or illness that causes a long-term absence from work before they retire.

Disability insurance is an often-overlooked financial safety net. It replaces a portion of your income, such as 60% or 70%, if you’re unable to work due to a covered accident, illness, or injury. It gives you the ability to keep up with your bills and meet living expenses.

Remember that health insurance only pays a portion of covered medical expenses. It doesn’t pay any amount of living expenses, such as housing, food, or debt payments if you can’t work due to a health problem. That could cause a significant financial strain for you or your family members who depend on your income.

If you don’t have the option to purchase a disability policy at work (or if you do, but it’s not sufficient), buy a private policy for yourself. In many cases, the monthly premium for a disability policy is less than a data plan for your cell phone.

4. Life insurance

Having a life insurance policy is critical when your death would create a financial hardship for those you leave behind, such as a spouse or children. They can be set up as beneficiaries and receive a payout after you die.

If you’re single, or no one depends on your income, you either need a minimal policy for funeral expenses or none at all. If you have a stay-at-home spouse who cares for your children, you also need a policy on his or her life to cover future childcare costs.  

Life insurance is most affordable when you’re young and in good health, so don’t wait to get coverage if you need it.

There are two basic kinds of life insurance: term and permanent. Term provides a benefit upon the death of the policy owner for a set period, such as 10 or 20 years. It's an inexpensive option that gives you the most benefit for the dollar.

With permanent life, there are a variety of options, but most provide a death benefit and an investment all wrapped up in one. They’re also called permanent life because you get lifetime coverage.

Life insurance is most affordable when you’re young and in good health, so don’t wait to get coverage if you need it.

5. Home or renters insurance

Unlike auto insurance, you’re not legally required to purchase home or renters insurance. However, mortgage lenders require you to have a home policy to protect their financial interest in the property until it’s paid off. It pays claims to repair your home after a covered event, such as a fire, hail, or windstorm.

With both home and renters insurance, your personal belongings, such as furniture, electronics, clothes, and jewelry, are generally covered up to certain limits. They both include liability, which protects you in a lawsuit. Plus, if you can’t live in your home or rental during repairs from a covered loss, they give you some amount of “additional living expenses.”

When you rent, your landlord isn’t responsible for your possessions—so, having renters insurance as a safety net is critical. A typical renters policy costs less than you might think: $185 per year on average across the U.S.

6. Retirement accounts

Once you have some emergency savings and enough insurance, it’s time to build a safety net for the future. Using tax-advantaged retirement accounts at work or on your own is a smart way to grow your money and cut taxes at the same time.

The most popular retirement accounts are offered by employers, such as a 401(k), a 403(b), or a 457 plan. Many companies offer matching benefits, which puts additional contributions into your account when you invest your own money.

If you don’t have a job that offers a retirement plan or you're self-employed, just about everyone qualifies for an IRA or Individual Retirement Arrangement. And if you work for yourself, take advantage of retirement accounts for the self-employed, such as a SEP-IRA or a solo 401k.

Just be sure that you won’t need to tap your retirement account before the official retirement age of 59½. Taking early withdrawals typically comes with a 10% penalty in addition to income tax on any amounts that weren’t previously taxed.

Free Resource: Retirement Account Comparison Chart PDF download

7. Reducing debt

Another type of safety net you can create is reducing what you owe. Having fewer liabilities can really take the pressure off if your pay gets cut or you lose your job or business income. It can also be the key to living within your means if you tend to overspend.

Reducing debt is the key to living within your means if you tend to overspend.

What most people don’t realize is that you can reduce your debt for free by tackling high-interest debts first. Even if you don’t have extra money to whittle down debt balances faster, you drastically cut your interest expenses.

Consider options such as refinancing, doing a balance transfer, or changing payment plans on student loans to make your debt more manageable. Get Out of Debt Fast--A Proven Plan to Stay Debt-Free Forever is my online class that teaches multiple ways to reduce and eliminate any debt you owe.

8. Multiple income streams

Creating additional sources of income is one of my all-time favorite safety nets. It’s almost like an insurance policy. Not only does having multiple income streams help you pay the bills and eliminate debt faster, but it helps you maintain security if one of them dries up.

How can you leverage the skills you already use in your job to create a profitable project or side business? What interests do you have that other people would pay for, such as music, gardening, designing, driving, caring for pets, writing, or tutoring? These are some questions to ask yourself that may easy uncover ways to earn more.

9. Automation

Automating various aspects of your financial life allows you to build safety nets, such as emergency savings and retirement, without having to think about them. Ask your employer to split your paycheck between your regular checking and your emergency savings account. If you get a paper check or are self-employed, set up an automatic transfer from your checking into your emergency savings fund.

Ask your employer to split your paycheck between your regular checking and your emergency savings account.

Workplace retirement plans work so well because contributions must come from your paycheck before you have the chance to spend them. Treat savings like mandatory bills that you owe yourself and automate them when possible. Even if you can only set aside small amounts each month, you’ll be surprised how quickly balances grow over time.

10. Professional help

If you have persistent financial challenges or can’t seem to get ahead enough to create safety nets, talk to a wise friend, family member, or a financial professional. They may help you see options and solutions to your challenges that you’re overlooking.

Taking small steps to create more financial safety nets will put you in the best position to deal with an unexpected hardship.

If you don’t have most of these safety nets in place, don’t beat yourself up about it. Instead of dwelling on what’s wrong with your finances, think about what’s going right that you can be grateful for. I promise whatever your situation, many people would love to switch places with you.

Taking some small steps to create financial safety nets will give you peace of mind and put you in the best position to deal with an unexpected hardship.

ABOUT THE AUTHOR

Laura Adams received an MBA from the University of Florida. She's an award-winning personal finance author, speaker, and consumer advocate who is a trusted and frequent source for the national media. Her book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show. Stay in the personal finance loop! Listen and subscribe to the Money Girl podcast on AppleSpotify, or wherever you get your podcasts.

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About the Author

Laura Adams, MBA

Laura Adams received an MBA from the University of Florida. She's an award-winning personal finance author, speaker, and consumer advocate who is a trusted and frequent source for the national media. Her book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show. 

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