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How to create a 3 month cash reserve

It’s never been a good strategy to live from payday to payday without savings.

Yet, for a variety of reasons, a lot of us do just that.

Some of us now have direct experience of what happens when our part of the economy shut downs overnight and we don’t have the cash reserves to tide us over until things open up again. 

It’s been a bit of a rude shock for some.

If you’re relying on unemployment payments, you’re no doubt grateful but also painfully aware they are not sufficient to meet your usual living costs.

And, it appears many businesses are in the same situation, which is why they’ve been crying out for government support as well.

The shutdown has revealed that too many businesses, big and small, have no cash reserves and were relying on their monthly cashflow to pay their monthly operating expenses. In other words, it’s not just individuals living from payday to payday without savings in reserve. 

It’s been a bit of a rude shock for some.

You’d think cash flow planning would be part of every business manager’s business plan but apparently the White House Administration aren’t the only ones not conducting worst case scenario planning. Seems no-one thinks things will go wrong for them, despite the number of ongoing business bankruptcies.

Okay, so if you were caught out this time, what can you do to ease the pain for the next time you lose your job?

Creating a 3 month cash reserve

Years ago I read a little book published in 1926: The Richest Man in Babylon, by George S Clason. Google it. It’s well worth the read, even if the language is a little dated.

One of the principles from The Richest Man in Babylon I expand on in Everyday Money Management, is living within your means, and that’s how you go about building a 3 month cash reserve.

Initially, you go on an austerity program, just like a government that has blown its budget and doesn’t have the political courage to increase taxes.

You start by conducting an analysis of your current spending.

Then, you divide your expenses into essential and discretionary items.

Step three is to draw up a monthly spending plan, a budget, based on your essential items, limited to 70 to 80% of your disposable monthly income. 

The fourth step is to set up a savings plan to accumulate a cash reserve equal to 3 month’s of your essential expenses.

The hardest part is sticking to your spending plan while you save the other 20 to 30% of your income until you accumulate your cash reserve.

Timeframes

If you restrict your spending to 70% of your disposable income and save the rest, it will take you 7 months to accumulate that 3 month cash reserve.

If you restrict your spending to 80% of your disposable income and save the rest, it will take you 12 months to accumulate that 3 month cash reserve.

If you restrict your spending to 90% of your disposable income and save the rest, it will take you 27 months to accumulate that 3 month cash reserve.

Everyday Money Management is an easy-to-read guide to taking control of your money manager.

BUY

Peter Mulraney is the author of the Everyday Business Skills series.

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