Financial planning is considered essential as it helps you achieve your short-term and long-term financial goals, become financially secure for your retirement, and also enables you to lower your tax liabilities. If you’re facing a financial crisis, a robust financial plan can help you get your finances in order. You may face a shortage of funds or be struck by a financial problem at any time that may end up disrupting your life. Things can go so bad that you may have to face the prospect of selling your assets and material possessions, not to mention having to alter your lifestyle completely to adapt to the extraordinary cash outflow. With that said, there are certain ways through which you can deal with these unforeseen financial issues.
Having a sound financial plan can help you tackle most financial crises and sail through the market ups and downs. Taking expert financial advice from a professional financial advisor can help you become better prepared for unexpected financial crises. A financial advisor can help you devise an effective strategy that will enable you to stay afloat during a financial crisis, without having to compromise on your long-term dreams to meet your short-term needs and requirements.
In this article, we discuss different ways in which an effective financial plan can help you become better prepared for any financial crisis that you may come across in life.
How can one avoid a financial crisis with the help of a financial plan?
Financial planning is not limited to creating a financial plan. It also involves tax planning, retirement planning, estate planning, education planning and all other financial services involved in helping one achieve their short and long-term financial goals. Through financial planning, you can help make sure that you don’t run out of money, are able to beat inflation and take care of your expenses. Prudent financial planning helps you to take care of financial emergencies like home repairs, medical expenses, car damage, unemployment, etc. If you've planned well, then you won’t need to borrow money when facing a financial crisis. Financial planning helps eliminate the need for debt as it allows you to save unexpected future expenses, saving you from having to borrow funds from family/friends or take out a high-interest loan to meet your expenses.
One cannot predict the future, but being prepared offers you peace of mind and helps reduce stress significantly. It is advised by financial experts to maintain an emergency fund that can cover your expenses for up to 6 to 12 months without any other source of income.
How to avert a financial crisis using an effective financial plan
Let’s talk about different ways in which you can use a financial plan to avoid a financial crisis:
- Preparing a budget
- Reducing your debt
- Saving more money at regular intervals
- Ensuring some of your savings are liquid
- Purchasing adequate insurance
The first step one must take to avert a financial crisis is to make a budget to ensure that you are managing your money properly. With the help of a budget, you can make a note of all your income sources and expense funnels, and weed out items that you deem inessential and keep those that are necessary for you to live a fulfilling life. Most investors don’t realize where their money is going; by preparing a budget, they can easily mark unnecessary expenses and dispense with them. With a budget in mind, you can set an expense limit for each head which will help keep your spending in check. For instance, you can earmark 10 percent of your salary for your daily travel expenses. What this will do is help keep your expenses in check so that you do not exceed your limit unless you need to. If you find yourself spending more than the budget you've set for yourself, try exploring other modes of transport such as the subway instead of a taxi to cut down on your travel expenses. Taxis can be three times as expensive compared to taking the subway for commuting short distances. But when you travel long distances, it can work out to be more than ten to fifteen times the fare of taking a train. It might not seem like a lot but can work out to be a significant sum when added up over a month.
Budgeting helps you identify places where you can scrimp on and save money that can be invested for future needs. These savings can help you out if you find yourself facing a money crisis later on in life.
Debt acts like rust on your savings as paying high-interest rates can make a serious dent in your savings. A major cause of financial indiscipline happens with the use of credit cards as they induce a cycle of debt to cover their expenses. With an increase in expenses, you end up taking on more debt and make unnecessary purchases. If you are struggling with paying your debt on time, it can also affect your credit score, impacting your ability to take out loans at low interest rates. If you end up at a point in your life where you need to take out a loan due to a financial crisis, you would end up being stuck with a high-interest loan due to having a low credit score.
The direct consequence of reducing one’s debt is that you end up saving more money since the money that would have gone to pay for high-interest rates can be used to build up your savings. For example, if you invest your money in high-yielding bonds, you can earn a dividend that will help you create a different stream of income rather than incurring an expense.
First, you need to divvy up your monthly salary or income with an aim to saving up to 25 percent, 50 percent can go towards your necessary expenses like rent, groceries, electricity, gas, etc., and the remaining 25 percent of your income should go towards discretionary expenses such as travel, dining out, etc. If it is possible, you can put more money towards either savings or investing, however, one should not go below 20 percent ideally. If you have trouble saving money, then you can set up automatic savings in your account so that the money gets deducted as soon as money gets credited to your checking account.
While it is a good habit to save, it is critical that you save in accounts that allow you to get hold of that money when you come across a financial problem out of the blue. For example, while retirement accounts like a 401(k) or an Individual Retirement Account (IRA) are great savings instruments, they are not flexible in nature. If you withdraw funds before the maturity date, you would incur a significant penalty. On a similar note, stocks offer great returns, but they require a well-calculated withdrawal strategy to ensure you don’t end up making a loss while taking your money out. Thus, it is a good strategy to diversify your investment portfolio with long-term savings instruments like retirement accounts and high-risk stock investments. In addition, you should add highly liquid vehicles like money market accounts, certificates of deposit (CDs), etc. to save for financial emergencies as they offer the twin benefits of security with high liquidity and flexibility.
Insurance serves as one of the best financial instruments to ensure financial security for an individual. Let’s go through a few examples where insurance can help you meet unforeseen expenses:
- Health insurance can come in handy when facing unexpected medical expenses
- If you’re a homeowner, homeowners insurance can help you take care of any loss to your home or material possessions
- Disability insurance covers all expenses pertaining to any disability that you may be suffering from
- A life insurance policy would serve as a medium of financial support for your loved ones in your absence
With insurance, you can tackle any unforeseen money crisis. It also provides the peace of mind that it offers you and your loved ones. So, ensure that you add insurance to your financial plan to be able to meet any future contingency that you may come across.
You can augment your savings with additional streams of income. You can do so by working on a hobby such as writing, painting, singing, etc. to earn additional money or work as a freelance consultant, a tutor, or work on an idea of yours and start your own business. With the Internet at your disposal, you have a lot of avenues that you can explore and create an additional income source from the comfort of your home. So, be on the lookout for such opportunities that can work in your favor.
Financial crises can strike upon anyone unannounced. Having adequate savings can go a long way towards coming out of such contingencies relatively unharmed. Do maintain an emergency fund with enough money to tackle any kind of money crisis that you may face in the future. If you need help in starting a savings fund or do not know where to begin when it comes to handling a financial crisis, do consult a professional financial advisor that can help meet your financial requirements.