Most people are less than 52 days from financial disaster. They need to take urgent steps to ensure their financial security.
Research from Yorkshire Building Society shows that the average Briton’s savings will only last 52 days should they lose their jobs. Over a third of people will only last 11 days. No less than 20% say they will survive on state benefits, but the state pays just £75.40 a week and their outgoings average £333 a week, so they’d be short over £250 a week.
A basic financial planning rule is to have readily-available cash savings equal to six months outgoings. If you’re self-employed, nine months of outgoings is safer, but if you’re a pensioner, three months is adequate because your income is secure. ‘Outgoings’ here means your regular spending other than your work-related expenses.
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Your No.1 financial priority
Building up this ‘emergency’ or ‘rainy day’ fund is the number one priority in financial planning. If you’re a couple, make it a joint account so that in an emergency, either of you can access it. There are plenty of such instant access accounts paying over 6% currently.
Only when you have secured this financial base should you move onto step 2 of financial security: protection. This means buying insurance to protect yourself and family in the event of long-term illness or death.
The Yorkshire BS survey showed that almost half of us have life insurance. What it didn’t say was how many life policies relate to mortgages, and probably most of them do. Of course you want your partner and children to have the house mortgage-free if you pop your clogs, and it would be nice if they had more cash to make up for your absence. In fact you should have enough life cover to pay off all your debts, not just the mortgage.
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Protect your income against illness not death
But providing additional cash on your death is not a priority. Before you think about that, take steps to protect your income, because you are far more likely (about 25 times more likely) to be unable to work because of long-term illness than to die before retirement.
So a key element in protection is insuring your income to provide a replacement income if you are made redundant or become seriously ill. Like life insurance, this ‘income protection’ is pretty cheap cover if you agree to a ‘deferred period’ of three months before your benefit starts to be paid.
Why three months? Because you’ve got that amount in your savings account, and the premiums for income protection with one month deferral are far higher than those with three months deferral. In fact, for cheapskates, income protection insurance with six months deferral is even better value, but you’ll have to accumulate more savings and mentally earmark them to be spent as ‘income’ until the benefit clicks in.
Once you have income protection in place, you can top up your life cover if needed so that your partner and children are taken care of. Of course if you don’t have a partner or children you simply don’t need life insurance – but you still need to protect your income for your own peace of mind.
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Income Protection is not the same as ASU insurance
Don’t confuse the income protection I am talking about with Accident Sickness and Unemployment insurance (ASU), which is now often called Income Protection. This provides a benefit for just 12 months, while a genuine long-term income protection policy (sometimes called by its older name, Permanent Health Insurance) pays the benefit until you’re well enough to work or until you reach retirement age.
At age 35, the long-term policy doesn’t cover redundancy, and costs £35 per month for £1,000 of monthly benefit at age 35. The ASU policy – which will pay benefit for maximum of 12 months - costs £40 per month. No prizes for deciding which of these is better value.
If you are concerned about redundancy, you can buy this cover on its own: for a 35-year-old, the premium for £1,000 per month in benefit would be £22. Again, the benefit is paid for just 12 months, so this seems expensive – and there’s a good reason. The insurers know that the only people taking out this cover think there’s a chance they’ll be made redundant, so claims and premiums are high.
Emergency savings, life cover to pay off your debts and income protection are the essential first three steps in financial planning.
