Many traditional money management concepts or principles, such as saving three to six months of expenses for emergencies, have been passed down to become "rules" of a sort. But given all that's changed with the economy, old school advice may no longer be relevant. Here are some rules to reconsider, and ones that still stand the test of time.
Old School Thinking That May No Longer Apply
Save 3 to 6 months' worth of expenses in your emergency fund
Squirreling away enough to cover three to six months of expenses in case of unemployment, a medical emergency, or other financial disaster is an important goal?but it may not be enough. You've probably heard (or worse, witnessed) the horror stories of massive unemployment making it much harder to find a new job. The process can take well over six months; in fact, recent data shows the average length of unemployment has surged to an all-time high of 40.4 weeks.
Whether this is an unusual financial circumstance or the "new normal," the uncertain economy and crappy job market means, for most people, "three to six months of expenses" is a good place to start, but not a smart place to stop (as one commenter noted on a blog post about the need for bigger emergency funds at the Squirrelers personal finance blog).
So how much should you save? Eight to twelve months might be the new three to six, but if that seems like an enormous goal, don't get disheartened. As before, just start saving as much as you can...but don't stop at the six month mark.
Refrain from using credit cards
A cash-only policy may help you get out of debt or keep tabs on your spending more easily, but not using your credit can also have a negative effect on how lenders view your creditworthiness.
SmartMoney reports that lenders are closing or slashing lines of credit for borrowers with high FICO scores (median 770) due to inactivity. That lowered credit limit available means their credit scores would drop. And credit scores aren't what they used to be, either: Time says that a score of 750, which used to be considered "elite" may now be at the bottom of "very good," due to tighter lending practices these days.
The moral is to go ahead and swipe that plastic regularly, and pay off the bills in full, of course.
SmartMoney has a few other old school financial rules you may want to break, challenging conventional wisdom like converting your traditional IRA to Roth (if you're up to 10 years away from retiring, it can take years to make up for the taxes on the conversion).
Retire at age 65
Speaking of retiring, it may be time to put aside notions of 65 being the ideal retirement age. (So long, decent retirement age, we hardly knew you.)
The Simple Dollar points out that when the national retirement age of 65 was established for the Social Security Act in 1935 (over 75 years ago!), the average American lifespan was 61.7 years. Today, we still think of retirement age as 65, but the average lifespan is now 78 years?16 years more.
What this means for retirement planning is that we'll probably have to change our approach and our perspective, looking at the period beyond age 65 as one of productivity (perhaps for a second career). While retirement investment tools are still helpful, we may need to tweak the inputs to account for longer lifespans, a second line of work, or just increased savings needs.
Just as "8 to 12 months" may be the new "3 to 6 months" for emergency fund savings and 750 may be the new 680 for credit scores, 65 may be the new 45 when it comes to our age and productivity.
Golden Rules of Money Management That Will Always Be Relevant
Two very basic money principles won't ever change:
Spend less than you earn and invest the difference
It's a boring and old piece of advice, but it's also one you can count on: to increase your wealth, spend less than you earn, and invest the difference. This may be easier said than done, but the principle of living within your means is really the fundamental rule of personal finance.
Invest in assets, not liabilities
Of course, this also begs the question of what to do with the surplus or where to invest it. The other basic rule that will also stand the test of time is to direct your money to those items that will increase in value or produce income (assets), rather than those that will depreciate in value or end up requiring even more investment or upkeep (liabilites). This is the secret to building wealth most people ignore, the Frugal Dad blog says: "Buy Assets, Avoid Liabilities." As an example, you could spend $200 on a new smartphone and then have to shell out more each month for the data and calling plans...or you could buy $200 in Verizon stock.
We're all for buying smartphones and value them as a productivity tool, but it makes sense to apply this reasoning to every major purchase: will it improve your quality of life or increase in value, or will this item make you spend additional money each month just to have it?
Staying Flexible Is Key
The main lesson here may be to regularly take stock of what our financial priorities are and our progress, and to update our plans and budget according to changing circumstances and our goals. Previously mentioned financial priorities worksheets can help you plan for your big picture goals?which you should reevaluate whenever your life (and the world around you) changes in any big way.
Being able to adapt and adjust to changing financial challenges may be the best money management skill to have. What are your money management "rules" for this new economy? Photo by Lexie Rydberg.
You can follow or contact Melanie Pinola, the author of this post, on Twitter.
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