An Engineering Approach to Money

If you do not have a cash cushion then you are at serious financial risk. A cash cushion is a block of savings that is used to cover an unexpected turn of events. In a sense it is your “oh crap” money. It’s money that you hope you never have to spend, but can get you out of an unexpected problem. Some examples of unexpected problems are:

1. Car Accident
2. House Fire
3. Loss of a Job
4. Family Member getting hospitalized

These are big expensive events that do not happen often, but when they do you’re going to be way stressed out and not having to worry about where you are going to get the money to pay for the crisis will give you one less thing to worry about. It is your own personal social safety net. You don’t have to got begging for a loan, or visit your local pawn shop to figure out how to meet the costs of these events, you just dig into the cash cushion you have created for these events. As soon as you spend a dime out of the cushion you must immediately start building it up again so that it is there should lightning strike twice.

I recommend that your cushion be enough to cover 3-6 months spending, if you are not sure of your spending keep 3-6 months of your after tax take home pay. Once you have this cushion in place you can use it as a form of self insurance. A great way to save money is to increase the deductible on your insurance to as high as you can. I have $1,000 on my cars, and $5,000 on my house. This saves me about $400/year and I have yet to make a claim on either in the last 20 years so that’s a savings of $8,000 during that period. So your cash cushion can not only give you peace of mind, earn you interest, but also will save you money. What’s not to love about that?

Plan of Action

If you don’t have a cash cushion, start building one today by saving as much as you can, even $100 a month will get you there eventually, once you have $1000 in your account go to your auto and home owners insurance policies and increase your deductible to $1000 and plow the savings into your cash cushion. For now just keep it in your regular savings account. Eventually you’ll want to move it somewhere that while still has a small risk to principle earns you a better rate of return. I’m always a fan of making every dollar work as hard as possible.

My personal cash cushion is 6 months expenses, how much is yours?

This entry was posted on Wednesday, September 6th, 2006 at 10:15 am and is filed under Actions. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.