November 2011

Job Risk Dictates Rainy Day Fund Size

Financial planners have scrapped the old rules for emergency funds as the time it takes to find work has skyrocketed.

The U.S. economy picked up a little bit of steam, growing at a 2.5 percent annual rate in the third quarter. But economists expect the unemployment rate to remain stuck around 9 percent for many months.

To protect against a potential job loss, financial planners until recently advised clients to set enough cash aside to cover their expenses for three to six months. Today, six months is their starting point. And the amount of financial cushion should be based on each individual’s job security – the more risk, the bigger the emergency fund. It’s similar to the argument that an entrepreneur, for example, should balance his or her job risk by investing conservatively.

“I ask a lot about their job,” said Rand Spero, president of Street Smart Financial near Boston. “I say you need to be in a savings mode and it needs to increase substantially.”

To calculate an emergency fund, every household needs to know two things: how much fat they can cut out of their budget and how much they can expect to receive in unemployment benefits. Benefits typically cover up to half of the state’s average weekly wage. It now takes 10 months, on average, to find a new job.

Using six months as the baseline, several planners outlined the risks for various life circumstances: …Learn More

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