Okay, we accept that we deserve to pay ourselves first. So what do we do with the money and how do we create our financial cushions?

Your Catastrophe Fund
Out of our 80% salary, first, we must create a flow of about 10% to pay ourselves first and the first thing we are going to do with this money is create a Catastrophe Fund, in a different bank or savings account to our Freedom Fund.

This is not money for unexpected, irregular and intermittent expenses, you know, the ones that we forget to budget for, and end up scrabbling to find the cash for, like a new lawnmower, auto repairs or ballet classes.

No, this is for major catastrophes, such as divorcing, losing your job or falling ill, when perhaps your only other fallback would have been to turn to the personal loans or credit cards.

Experts usually agree that this should be between 3-6 months living expenses or you may prefer to set a particular amount of money down here.

What would make you feel secure? #2000? #5000? #10,000 or even #20,000? This will become your second line of defence against incurring debt (see below for the first line).

Use a different account with a 30 day withdrawal notice period and set up a standing order from your day to day account into this account. Remember, this is a limited time period payment - when your set figure is reached, you can divert this money elsewhere.

Tip: You could either start this with your entire 10% or do half and half perhaps, with half going towards your Contingency Fund.

Your Contingency Fund
This is an amount of liquid cash, money you can get your hands on in 24 hours for the minor emergencies in life. We are talking boilers blowing up, camshafts breaking (who knows what they are but I know they're expensive!) or perhaps the roof leaking and needing to be fixed fast, before the insurance will pay up.

Remember, this is a finite payment, when the Fund is full, you will divert the monthly amount put into it, into something else. Your attitude towards this fund will either make or break your new Financially Intelligent lifestyle.

This is not a pool of money to be used for anything you fancy, (like a holiday or a new coat) but a cushion amount that will be used, then topped back up from the Odds & Sods Fund (see Day 29).

Tip: Figure about #1000 for your contingency fund.

 

Your Odds & Sods Fund
Okay, brace yourself. This is the tricky one to get your head around.

Before credit, people had to plan ahead. Whether you had a lot or only a little, you never spent all of it because anticipation meant survival. Then the easy availability of credit meant running out of cash didn't mean running out of money, leading us to think that being able to spend money was the same as having money.

Anticipation meant thinking only of the good things that were going to happen, like marrying someone rich, winning the lottery, or more basically, a pay rise, the monthly wage cheque, the next holiday. It didn't mean the unexpected trip to the dentist, the new shoes, the car breaking down. So we stopped anticipating, stopped planning, got sloppy. We started to consider occasional expenses as optional expenses and it's only when one rises up screeching and bites our bottom, does it become an essential expense.

We are using up and wearing out our cars, our clothes, our homes a little bit every day. How much are you thinking about the brakes on your car that are going to brake for their very last time in about eight weeks from now?

When the unexpected expenses come at us seemingly out of nowhere, we collapse in financial shock and have to reach for the credit cards, but really, they are not that unexpected are they? We just didn't do anything about them. But it is crucial to plan for those things as well and this is where the Odds & Sods Fund comes in.

 

© Nicola Caincross of The Money Gym 2008. No content to be reproduced without written approval of the author.

Nicola is a Wealth Coach, Author, Publisher and Speaker, and the Director of The Money Gym.

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