Risk management is a methodology to mitigate negative consequences resulting from threats and uncertainties. In this article, I’ll be exploring financial risks focused on personal finance and how to minimize these risks. Since risk management is a huge topic, I am going to limit it within the scope of the REAL Wealth Building framework — specifically, we will be looking at (1) income risks, (2) expense risks, (3) assets and investment risks, and (4) credit and debt risks.
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This type of risks deals with your ability to produce income:
- You die.
- You become disabled and are unable to work.
- You lose your job.
- You are underemployed.
- You might outlive your income producing assets (for retirees).
Income risk management methods:
- My top of the list favorite is having multiple alternative income streams. These income streams can help you (or your family) mitigate most of the risks above.
- Proper level of life insurance coverage to ensure that the surviving family members could maintain the same lifestyle in case you die.
- Disability insurance to ease the financial pain when you become disabled.
- Proper career management and continuous learning to help mitigate the risk of unemployment and underemployment.
- Proper retirement planning, frugal living, and annuity to reduce the chance that you’ll outlive your assets.
Expense risks boil down to:
- You are spending more money than you earn.
- You are not earning enough to meet your needs.
- You have emergencies that force you to spend money.
Expense risk management methods:
- Practice frugal living to lower your expenses. You could also employ some of these geeky expense reduction techniques: Pareto Principle, Quick Wins, and Scattergram. This way, you could spend less than you earn.
- Learn how to earn extra income so that you could earn more than you spend.
- Start an emergency fund so that you have reserve cash to deal with emergencies.
- Carry proper insurances such as car insurance, home insurance, and umbrella insurance to ward against major catastrophe (thanks Tropper!).
This concludes the first half of personal finance risks and risk management series. In part 2, we’ll be looking at risks that deal with your assets and liabilities.
Here’s Financial Risks and Personal Finance Risk Management, Part 2.
Pinyo Bhulipongsanon is the owner of Moolanomy Personal Finance and a Realtor® licensed in Virginia and Maryland. Over the past 20 years, Pinyo has enjoyed a diverse career as an investor, entrepreneur, business executive, educator, financial literacy author, and Realtor®.
I’m an older underemployed worker. What do I do now?
Very informative post. Thanks for sharing this. I first learned about Risk Management when I became a Commercial Lines Underwriter. It was critical to the success of the organization to help the policyholder to recognize potential risks and then put a plan in place to help to minimize first, the chances of a loss occuring, and second the severity of the loss. And of course, it was important to price policies accordingly in the anticipation of losses. to also reserve money for catastrophic losses. Funny how it never ever occurred to me that I should apply this same principle to… Read more »
One of the biggest risks people don’t realize they take is in buying a home with a mortgage. For housing, I would strongly caution many from taking the plunge and buying a home who would otherwise take on a mortgage. Often people, even those who struggle with debt, feel like they are missing the boat by passing on home ownership. But for those with income insecurity, there is no greater way of hurting personal finances than taking on a mortgage that they can barely swing. It is a risky move, and the truth is a family can plan all of… Read more »
I am interested in buying asset but never had the courage to do so as i am not so economically strong. Is there safe way to invest in these fields? I am planning to put a part of my pay as saving so that i can use it for my asset buying.. Thanks for explaining the risks involved. I was not aware of many of the points. So it will surely help me.
Every retiree has his own savings that they need to turn into a source of income. And annuity is designed exactly to do so. That’s why there will always be a logical appeal to annuity. But I think one of the demerits of annuity is, for most of the cases all your investment vanishes with your death. To avoid this circumstance, joint life annuities will be a better product to buy.
Great recap of the various risks and ways to manage them through basic avoidance and applying the correct insurances. I am and a pretty firm believer in life and medical insurances but I am not sold on the disability insurance yet. Many people become disabled and cannot perform their occupational duties. With such a policy in place, will the benefactor truly be taken care of to the extent they really require? Is Disability insurance coverage similar to that of automobile insurance where you have to graciously pay each month and then fight tooth and nail to get a penny out… Read more »