Thursday, March 26, 2015
Retirement Remedy: Getting Savings Straight
In a conversation with a younger married person this week I heard an all too familiar story: Credit cards were all paid off with the tax refund and now the slow creep has begun. "It's not that we're using the cards to eat out or travel, it's the emergencies that come up. The car needs new tires or the oil needs to be changed..."
Shall we get it straight once and for all?
I'm going to make myself mighty unpopular and say this. Oil changes and the need for new tires are NOT emergencies (unless you have a slashed or punctured tire right away after buying new). They are routine maintenance issues and should be dealt with by setting aside a small monthly amount to cover the costs at time of service. This is not savings per se, it is planning ahead.
We have a variety of what I call sub-accounts within our checking account but you could use an actual savings account, envelopes, or piggy banks to keep this money separate. We save for minor home maintenance, routine air conditioner maintenance, routine car maintenance, annual property taxes and car tags. If we know we have a major car maintenance issue coming up we amp up those savings to cover it. Generally your dealership will tell you well ahead of time that the need for those major sort of services is due. These sub accounts get fed every pay period. We don't go out to eat or buy groceries before we pay them either.
Then we have our monthly savings, funds that go directly into savings each month for the sole purpose of covering emergencies, true emergencies. What is a true emergency? Funds could be used to cover co-pays for unexpected medical expenses, not routine medical exams; a rental car if a vehicle is sidelined due to an accident or truly unexpected repair (like blowing a head gasket); major home repairs after a storm...Those are emergencies. Emergencies don't happen often, they don't come about at regular intervals. They are unexpected occurrences that necessitate altering your current state of living.
Every single financial expert recommends an emergency fund of at least $1000. $1000 is not going to cover most emergencies. It is a good starting point and a huge help to have that money set aside but I recommend you have at least $3000 and up to $5000. My reasoning is based on personal experience. The year we put the roof on the house, we used money we'd saved over the course of three years. We didn't know we'd need to replace our roof immediately, but we'd begun saving fr that "some day". Our next emergency came up one month later. We'd just put $4500 into a roof after discovering major issues that had to be repaired immediately and our AC went out. In our region temperatures of over 100 are not uncommon in summer and that was a routine summer... Hello second bill for $4500. We could have easily been out $9000 in a 30 day period. One expense was semi- planned. The second was not. It was not an amount we could cover with our routine maintenance fund. We opted to use a personal line of credit to cover the second bill and were grateful we could do so. Paying a second big amount from our savings would have drained us.
We bought a car one year in July. Two months later, John hit a deer on the way to work with the 'beater' car which had liability insurance coverage. We had to buy a second car right away. Boom, boom. Again we made a planned big purchase and got hit with an unexpected expense within a month or two. We had to use savings to cover the expense of that second car and although we bought another 'beater' it was still a little over $2000. Again, a $1000 emergency savings fund would not have been enough.
I recommend if at all possible that you put aside 10% of your gross income each month. Work diligently to build up savings so that you have both an emergency fund and more besides. And even if you are on a fixed income or retired you should continue to contribute to your savings.
In the case of the young person, I happen to know that they have enough money left each pay period to eat out and travel. I'd suggest they limit those 'pleasures' to one meal and one trip per month and save the rest for those routine expenses and to pay off their debt load. I'd also suggest that while they might use their tax refund to help decrease the debt load, I'd put the bulk into savings to cover their real emergencies. If at the end of the year they haven't had a major emergency, they might well consider paying off another debt in full. And of course, this advice would work well for the older couple who are struggling as well.
As a quick review, routine maintenance issues are not 'emergencies' and shouldn't use savings. They should be planned for ahead of time, that is why they are called 'routine'. Emergency savings should be well over the $1000 recommendation given by most financial experts. Regular savings should also be part of each pay period and even if you retire, you should continue to save. What are we saving for if not to cover our future needs?