Risk Management for Young Professionals

When it comes to financial planning for young professionals, there are a few key themes that repeat themselves in nearly every meeting I have:

• Healthy savings/budgeting habits
• Debt reduction strategies
• Purchasing property
• Investment strategies

I really wish more young professionals would pay attention to another major aspect of financial planning – risk management.

We’re all Young and Invincible

Let’s assume for a second that we write down our goals and allocate our surplus cash flow, we’re given what we think to be a perfect asset allocation, we’re on track to buying a property in three years, and we can retire at 60 – on the surface things look peachy. The reality is a little different – these are all accumulation goals. They’re the “offense” of a financial picture, and you’re not likely to win the long game if you have all your chips stacked on offensive plays. The other half of financial planning addresses the question, “what happens if something goes wrong?”

What can go Wrong?

When it comes to risks that can challenge financial security for young professionals (whom I define as anyone under the age of 35), there are only a handful, but they need to be taken very seriously:

• Unemployment – the loss of income for an extended period of time can derail a financial plan
• Liability – a lawsuit can seize claim to your assets and/or future income – a loss of income will have a severe impact on a financial plan
• Unexpected major expenses – for instance, a major medical expense can put someone into major debt, locking up future income for debt servicing
• Lifestyle inflation / overspending – spending more than one could/should can result in a long-term lack of savings, or even worse – debt
• Disability – similar to unemployment, the loss of one’s income due to a sickness or injury can derail a financial plan

Did you notice a central theme in these risks? For a young professional, every single major risk stems from a hindrance to earn or spend income freely. This leads me to state a fundamental truth I’ve come to believe in financial planning – a young professional’s income is, by far, his or her most valuable asset.

If you’re still having doubts, think about it for a moment. Even if you’re 30 years old and have a myriad of assets – a million-dollar home, a car, and a $500,000 investment portfolio – if your income is $150,000, you will most likely make more in the next 10 years than the collective value of all your assets. And if you take into consideration a retirement age of 60 and a modest 4% income growth rate, you will earn another $8.4 million over the next 30 years. Fundamentally, your income is what you will use to buy whatever you’d like to buy, or save for whatever you’d like to save for, up until the day you retire.

We’re all Invincible

So why do young professionals resist the idea of income protection? The biggest culprit in this epidemic is the mentality of “it won’t happen to me.” Thankfully, some of the aforementioned risks, medical expenses mainly, are brought up in conversations and the media a lot, and there’s a lot of attention around them. People know that they need health insurance, because an unreimbursed hospital stay can easily run hundreds of thousands of dollars.

Unfortunately, liabilities, disabilities, and overspending aren’t taken as seriously. The “it won’t happen to me” mentality is incredibly hard to shake off because it’s somewhat hard-wired into our brains. We don’t want to imagine ourselves being the subject of a multi-million dollar lawsuit because we had a bad car accident. When it comes to a disability especially, we don’t want to imagine ourselves ever being in a position of helplessness and not being able to work. These are all understandable psychological responses, but burying one’s head in the sand to avoid the problems won’t make them go away.

Risk Management

If by now you’re saying to yourself, “okay, I get your point, what should I be doing about it?” then read on. Virtually every aforementioned risk has a corresponding risk-mitigator associated with it:

• The impact unemployment can be subdued by having a sizeable emergency fund to tide you over until you find a new job
• Medical expenses, liabilities, and disabilities can all be addressed with formal insurance policies (health insurance, liability insurance, and long-term disability insurance, respectively)
• Overspending risk can be curtailed by having a well thought-out budget and financial plan

Next steps are fairly straightforward – if you don’t have an emergency fund, start saving cash to accumulate 3-6 months of whatever your fixed monthly expenses are. If you don’t have health, liability, and long-term disability insurance – GET THEM. Health insurance is a bit pricier, but good liability coverage can cost as little as $50/month to add to your renters, homeowners, or car insurance policies. You can also get an Umbrella policy to have added liability protection above the limits on those policies. Similarly, disability income insurance is relatively inexpensive for what you’re getting – premiums for young professionals are typically less than 4% of whatever the protection amount is. In other words, if you purchase a policy that protects $1,000/month of your income, the premium will very likely be less than $40/month.

When it comes to any insurance policy or financial planning matter, consider seeking a professional opinion to ensure you’re taking the right steps for your specific situation. The topics discussed in this article aren’t to be interpreted as financial advice because every individual situation is different. A professional can help you sort out how to tackle all your financial planning in a comprehensive and thorough way, and will spot the gaps in both your offensive and defensive strategies.