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Individuals don't face financial emergencies every year. They come infrequently but can dent your finances in such a way that it would take years to recover. For many, the covid-19 pandemic is one such event.

It is, therefore, critical to have a cushion that can supplement your income—or replace it, in the worst-case scenario. Adheer Dhar, head, personal loans and fintech, Clix Capital, explained five tenets of financial planning that everyone must follow.

HAVE A CONTINGENCY FUND

It pays to have a plan in place that can help get you and your loved ones through the crisis. Though we're facing unprecedented times today, it's not too late to work on emergency-proofing your finances.

Emergency-proofing your finances can help limit your overall disruption, lower stress, and put you in a better position to ride out any emergency. "It should ideally be an amount, which should help you sustain your living expenses for at least 6-9 months, which includes repayment of your debt," said Dhar.

He further added that individuals should never use contingency fund for risky investments like equity. Funds should be accessible and always have nominees updated. Ensure that personal details, including your address, KYC (know your client), etc, are updated regularly. You can keep the emergency fund money in a separate account.

ADEQUATE INSURANCE COVER

The nature of the emergency could be related to health or a natural disaster impacting one's fixed or mobile assets or of any other kind. Insurance can help to be better prepared for most of such unforeseen circumstances.

Given the extremely high cost of healthcare, one needs to have a good health insurance policy, which has extensive coverage in terms of the network of hospitals; it's cashless and has broad coverage in terms of ailments.

"It is necessary to supplement your group health insurance plans, offered to you, as part of your employment, with a family floater, which covers your immediate family and dependents. Depending upon your income, one should look at earmarking about 1%-3% of monthly income towards health insurance premium repayment," said Dhar.

Besides, individuals should also have adequate life insurance, which works on the principle of HLV (human life value). HLV effectively means the amount of money needed to fulfill all the financial goals in the lifetime; this includes your monthly expenses, marriage, children's education, travel, and retirement corpus.

The summation of all these expenses, factoring in the inflation, would give you an amount, which would be adequate to ensure that your loved ones have enough in the unforeseen event of your untimely death. The sooner you buy, the lower the premium, in terms of your age. One can keep adding to the sum assured as the income increases by buying larger plans. The key is to keep paying and not let the policy lapse.

STRUCTURE YOUR SAVINGS

Give a structure to your savings by calculating the amount of money you need for your goals like retirement, children's marriages, and so on.

Here, the thumb rule is to invest in equities for goals that are more than five years away and use debt for short- and medium-term goals.

"Treat your investment and contingency fund separately. Allocate funds to the goals from your regular income. This could at the cost of reducing your monthly lifestyle expenses," said Dhar.

CREATE A BUDGET

Creating a monthly budget will help you to be disciplined. The imprudence of unplanned and large instinctive purchases creates an imbalance between savings and expenses, resulting in compromising the long-term financial goals. "Reduce your expenses; it has to depend upon the money left, after providing for your savings linked to your financial goals," said Dhar.

AVOID DEBT

As a thumb rule, one should limit the debt to monthly income ratio to less than 40%. Whether you're facing an emergency or not, it's always a good idea to avoid bad debt as much as possible. "Bad debt is when you borrow to buy something that doesn't increase in value or generate income, including cars, clothes, and most credit card debt," said Dhar.

Proper planning can make a world of difference in times of a crisis and prepares you against financial setbacks.

(Do you have personal finance queries? Send them to mintmoney@livemint.com and get them answered by industry experts)

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