How to Avoid Tapping Retirement Savings Too Soon

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Nothing can blow through savings faster than an interruption in your income. Whether you become unemployed or get sick, having a pool of money available to see you through is important. If the only pool you have is your retirement savings plan, it’ll be gone lickety-split.

The whole idea behind an emergency fund is to protect the money you’re saving in your retirement plan. With six months’ worth of essential expenses in a high interest savings account, where the money is earning some return but is also easily accessible, you can put your retirement savings into more longer-term investment options to earn a potentially higher return.

And yet so few people have emergency funds. And even fewer recognize that they should only be used for extreme emergencies like layoff, illness or death.

No, needing new tires is not an emergency. That should have been a planned expense, and you should have accumulated some money in your car expenses fund to cover those new tires.

Covering the kids’ hockey fees and equipment costs also isn’t an emergency. It is only a lack of planning and foresight that would leave you scrambling for money to cover those costs.

While emergency funds are the first defense for your long-term savings, your savings’ saviour in the event that you do end up sick for any period of time would be disability insurance.

Statistically, at most ages there’s a one-in-three chance of becoming disabled for at least six months before the age of 65. Even more frightening, if your disability does last 90 days, the average length will likely be about five years. Holy mother! How much of your long-term savings would be left if you had to tap them for five years to keep yourself afloat?

The way to protect your savings is to have the other pieces of your financial puzzle in place to create the picture of financial security that you want to have. Leave a piece out of the puzzle and you could end up watching the whole thing fall apart.

9 Responses to “How to Avoid Tapping Retirement Savings Too Soon”

  1. For long term disability insurance, many people have it at work but have no idea what they have. If you don’t know, you should ask about the following attributes of your work plan:
    – waiting period (90 days)
    – duration of benefits/how long they pay for (age 65)
    – % of income (66%)
    – taxation of benefits (no)

    In brackets are what you should have. If your work plan is deficient, petition to have the benefits increased.

    If you’re lucky, you may have ‘short term disability’ that covers you for the 90 day waiting period – if not, that’s where your emergency fund comes in.

    If you don’t have disability insurance at work, you’re going to have to purchase a plan from an insurance broker. Be warned – those plans are expensive. As Gail notes, there’s lots of disability, so lots of claims, so that leads to high premiums.

    Manulife has a policy called ‘Synergy’ that combines life, disability, and critical illness insurance at a bit of a discount on all three. It’s worth comparing that insurance to an individual disability policy if you’re looking at those options.

  2. My mother, all my aunts, and my grandmother all lived into their nineties, so I am ever mindful that my long term savings are not to be touched and that I need to be prepared if an emergency occurs.
    I do not understand why people would be using their EF for a new furnace, roof, car repairs or replacement, etc. I believe, as Gail says, that all these are planned savings or maintenance fund items. An EF should be in place for real emergencies.

  3. About 8 years ago I was diagnosed with Stage 3 breast cancer. I was a single mom with a mortgage and all the expenses to go with it. I was 41. If I did not have long-term disability at the time I would have lost everything. It was not the time to be stressed over not having money to pay the bills. But just so everyone knows my long-term disability did not kick in until after 20 weeks so I was fortunate to have a little savings, EI (believe me it is not a lot) and family that helped me. I was off work for a year I went back as soon as I could, but I knew people having treatment working through because they had no insurance. I really do not know how they did it. Just so you know no one in my family had been sick like that it happens to anyone so please protect yourself especially you single moms please.

  4. This topic of knowing and categorizing your savings is one of the key cornerstones of financial health/independence (aside from simply spending less than you earn).

    Make a clear line between planned spending, emergency fund and retirement savings. Never mix these categories up to stay proactive instead of reactive. It may be a bit of challenge to accumulate them all, but tracking them separately is vital.

    I think some people get into the mindset that I have $X amount of dollars saved, but this is overstated as they forget about the planned spending items that easily wipe out the “savings”. For example, someone with a large home or multiple expensive cars can causes huge amounts of upkeep/maintenance. If this is not in the spending analysis, some people will simply get frustrated and think they can never get ahead. However, when you ask them what their average monthly/annual costs are, they never include these amounts, so they think they have more money then they really do from the start.

    It’s a cycle that can only be stopped with categorizing ALL types of savings.

  5. Sound advice, as usual, Gail! I’m in a waiting period for long-term disability benefits through a private plan I secured about 15 years ago. I’ve been living modestly off my emergency fund since April 1.

  6. avatar LuckyBoy Says:
    July 1, 2014 at 12:47 pm

    I’m lucky my work both have short-term disability and long term disability benefits – I got sick a few years back and they paid while I was recovering, I realized then how important having an emergency fund is thus I started saving since – I now have more than 6 months worth of emergency funds but I still keep contributing, it’s also left untouched – for me to be able to save money I use the 52 week money challenge technique, but I personalized the rules of the challenge, what I do is that I electronically transfer the funds to 3 accounts individually (meaning I transfer the same amount to each account) – high savings account (emergency fund) tax-free (planned expense) and rrsp (retirement) instead of putting the funds in a jar/envelope.

  7. All these different accounts and categories make my head spin. I keep a single 8 month EF for everything including car and house repairs. Replinish as required and will always have the min. 6 months recommended by Gail.

  8. avatar Genevieve Says:
    July 2, 2014 at 9:47 am Am I correct that for the benefits to be not taxable the premium has to be paid by the Employee? If so, does it have to be paid totally be the Employee or just in part? Thanks!

  9. Having recently lost an income we can attest to the need for a solid EF of at least 6 months. We were lucky that we had been saving money for a big reno so we will live on that and our EF until money starts coming in again. Good practice run for retirement. See how much we can live on and keep the standard of living we think we would like. Amazing though how certain expenses go down when u are not working. Every month we get a bit better budgeting and cutting back. Also interesting to see that the things we thought we wanted when we retired are not really important to us anymore. This is one case where reality is better than lets pretend. At least now we have a more realistic view of what we can do without and what is necessary.

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