Post Menu and Details.
- Financial airbag
- Why is financial protection important?
- But how do you know if you need an airbag for 3, 6, or 12 months?
- About methods of protecting funds in reserve
- How to store funds
- What can you spend your savings on and what not?
- Conclusion
Words: 1045
Reading time: ~4 minutes
You’ve most likely heard of the concept of a financial airbag, but perhaps you still haven’t applied it to your life. In this article, you will learn about why this is extremely important in the modern world and why you don’t need to spend the saved money on daily necessities (to do the car tuning, to buy followers on Instagram, and more).
Financial airbag
Like a real airbag in a car, a financial airbag is not used in everyday life and you can even forget about its existence. You can spend your money on a daily basis for different purposes: buy groceries, pay for a gym membership, buy Instagram followers to promote your blog, and so on. But don’t worry about spare money. They are always there.
A car airbag only makes itself felt in the event of an accident. In a critical situation, it can save a life. A financial airbag protects against problems associated with a sharp shortage of money. It is designed to protect against such unpleasant life situations as dismissal, illness, destruction of property, etc.
In these cases, the money from the reserve account will help to cope with the consequences of the events that have occurred. A funny and at the same time sad situation: a car airbag protects only from an accident, but it is in almost every car. The financial cushion protects against many troubles in life, including the consequences of an accident, but many have not even heard of its existence.
Why is financial protection important?
Living without a dedicated bank account for emergencies can lead to dire consequences. And in some cases even irreparable.
For example, such an unpleasant combination of events as a serious illness + dismissal can put a person in front of the problem of survival, when the question arises of how much money to buy food today.
In the absence of financial reserves, there is nothing left but to resort to outside help and borrow money. It’s good if you have relatives or friends who can help, but they may not be, and their options are also limited. Then you have to contact financial institutions.
Starting with a loan for a small amount, gradually the amount of debt can grow like a snowball. There is a desire to take a new loan to pay off the previous ones. And then: collectors, litigation, bankruptcy. The killed nervous system, health, property, and years of life.
Size matters
The most logical measure of a financial airbag is the number of monthly expenses it should cover.
— The minimum amount is expenses for 3 months.
— The maximum amount is expenses for 12 months.
3 monthly expenses are the minimum you should start from. Even with a very stable income from several sources, you should not give in to self-confidence and hope that you can live with less or no reserve. The world is too unpredictable and cruel.
Amounts exceeding 12 monthly expenses should no longer be directed to financial security and savings, but to capital growth. Investing can help with this, i.e. purchase of securities (stocks, funds, gold, etc.)
But how do you know if you need an airbag for 3, 6, or 12 months?
In short: the more stable and diversified income a person has and the fewer people he has to provide, the less he needs a financial reserve.
And vice versa: the more people depend on a person and the higher the risk of losing income, the more airbag he needs.
It is also worth considering the state of human health, bad habits, and other circumstances that can accelerate the onset of financial troubles or increase their scale.
About methods of protecting funds in reserve
You can’t just take and create a financial reserve fund. It needs to be stored somehow, and it is desirable to do it not to the detriment of oneself.
Let’s start with how not to keep your savings:
1. Cash. It is reasonable to keep a small part of the money in cash, which cannot be said about the idea of keeping the whole amount in this way. Never forget about inflation. The inaccessibility of funds away from home makes such savings meaningless.
2. Do not keep funds in the form of securities in a brokerage account. Quotes of most financial assets are volatile and can fluctuate up to 50%. Don’t let your reserve halve. Another reason: exchanges do not work on weekends and holidays, which means that it may be impossible to sell securities and receive funds from a brokerage account.
3. Bank deposits for which withdrawals and replenishments are impossible without loss of interest. It is impossible to predict in advance when savings will be needed, and if funds are withdrawn early from the deposit, the interest on them burns out and the whole meaning of the deposit is lost.
How to store funds
A possible option is to keep half of the airbag in dollars and the rest in euros. This will protect you from currency fluctuations.
The best way to store funds: savings bank account. This usually protects against inflation, while funds are always available.
More than 6 monthly expenses (i.e. for 7, 8, and subsequent months) can be placed in short bonds or money market funds. This may provide higher returns but will increase the risks associated with the liquidity (availability) of funds.
What can you spend your savings on and what not?
It should be understood that you are not saving money to spend it on buying something unnecessary that you really want right now. We can give two examples of spending money on a car.
1. Car repair after an accident. Yes, you can use your reserve money for this case, because this is indeed a circumstance that needs to be addressed immediately.
2. Car tuning, insurance, a set of new tires. No, this is not an emergency that requires the investment of reserve funds. You know perfectly well in which month you need to renew your car insurance, and in which year you need to change a set of tires. Such expenses can be planned and put aside money for them in advance. If you haven’t done this, then do it next month, but don’t touch your savings.
Conclusion
Creating a financial airbag is a huge step for your safety and a small step towards wealth and financial freedom. We hope that thanks to this article you will think about creating a reserve fund.
Thank you for reading!