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Building a Financial Safety Net

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The Third Step in Personal Financial Planning

The first two articles in this series discussed the first two steps in personal financial planning: controlling yourday-to-day finances to enable you to do the things that bring you satisfaction and enjoyment; and choosing and following a course towards long-term financial goals.

The final article in this series discusses building a financial safety net to prevent financial disasters caused by catastrophic illness or other personal tragedies.

Long-Term Disability Insurance

Long-term disability insurance helps replace your income if you are unable to work due to illness or injury. Many people consider this coverage a luxury, when in fact, it should be considered a necessity for those who don't have other financial resources they could tap in the event of an illness or injury. Even if you do have other financial resources, would you want to use them to pay your monthly bills? If you saved 5% of your income each year, a 6 month disability would eat up 10 years of savings!

Don't think it could happen to you? Although your chances of having a disability increase as you get older, illness and injury can happen at any age. Car accidents, sports injuries, back injuries, pregnancy, and disease are just a few examples.

Ask yourself this question: could you live without your income for three months? Six months? A year? If the answer is no, you need disability insurance. Employers often offer this coverage via a payroll deduction, which may be tax-deductible.

Life Insurance

Life insurance is necessary if you have dependents who will suffer financially if you die (children, for example). If you have no financial dependents, it's probably not necessary, although many people also use insurance as part of their estate planning and cash accumulation regardless of their dependent status.

If you plan to buy insurance other than term insurance provided by your employer, you should educate yourself about the pros and cons of term, whole life, and other types of insurance. You may also want to talk to an adviser about how much insurance is enough. The Investment FAQ Web site explains how to determine your life insurance needs.

Emergency Fund

Financial advisors suggest having enough savings in an easily accessible account to cover your living expenses for six months in the event of illness, job loss, or other serious emergency.

Summary

Once you've protected your income-generating ability with disability insurance, protected your dependents with life insurance, and protected your other assets by having a six month emergency fund, your financial safety net is in place and you're ready to turn to the task of accumulating wealth.

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The Need for Disability Insurance

The likelihood of being disabled is far greater for most people than the likelihood of dying during a given period of time, yet millions of people carry life insurance but no disability insurance. We insure our homes, our cars, and our lives, but sometimes we fail to insure our greatest asset: our ability to generate income.

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