Too often, we complacently think that difficult times can’t affect us. We are sure that terrible things won’t happen to us and that they only happen to others. And, for many of us, that ends up being true. However, the case is likely to be different when it comes to the possibility of experiencing a financial shock.
According to recent information from the Pew Charitable Trusts, 60% of American households experienced a financial shock last year — many of whom were not prepared.
What is a Financial Shock?
What is a financial shock exactly? It’s something on the order of:
- Loss of a life partner
- Major home repair
- Drop in income or job loss
- Hospital visit
- Major car repair
Of those who report a financial shock, 55% say that the setback makes it harder to make ends meet overall. If you were confronted with a financial shock, would it cause you money problems? How would your bank account and financial situation be affected?
Preparing for the Unexepected
The best way to prevent a financial shock from causing long-term money problems is to prepare ahead of time. A plan that involves multiple strategies can help you reduce the impact an unexpected financial emergency can place on your budget.
Here are some of the ways you can prepare for a financial shock:
Emergency fund: One of the tried and true methods of shoring up against future problems is to set aside money in an emergency fund. Some sort of emergency savings can help you create a cash cushion that you can draw on when you are running low on funds.
I like to keep about three weeks’ worth of expenses in a liquid high-yield savings account, and then keep the rest of my emergency money in a taxable investment account. That way, the bulk of my emergency fund is earning interest over time. And, if I do have to sell some shares at a loss, at least I get a tax deduction out of it. You might not be comfortable with this setup; in that case, keeping your money where it’s safe and accessible is the most important consideration.
Income diversity: This can be an important safety measure to protect you against job loss or a dramatic cut in hours. Look for ways to build up multiple income sources. You can start a side gig, work on something that pays royalties, or even build up an income portfolio. Look for ways to avoid relying too much on a single source of income for your financial well-being.
Appropriate insurance coverage: The right insurance coverage can go a long way toward helping you get through a financial shock. Health insurance can help offset the cost of a hospital stay or major illness, and homeowners insurance can help you cover home repair costs. While insurance can’t solve all your problems, and may not cover some issues (like car repairs), appropriate coverage can help protect your assets when you need it the most.
There’s no predicting when you’ll encounter a financial shock. You don’t want a surprise to derail your financial goals. Sit down and think about some of the ways that your situation could go awry.
Consider your contingency plans, and then work on ways to shore up your finances in case you do experience a financial shock.
Are you ready for financial shock? How are you preparing your finances for the unexpected?