No one expects you to have everything lined up before a new baby arrives.
But a year later, when your family is starting to settle in, it’s time to get your financial plan in order.
Here are the six steps experts recommend you take before your baby’s first birthday:
1. Set up a college savings account.
Time is going to fly by, so you should start saving for your child’s education now.
Rob Oliver, a certified financial planner in Ann Arbor, Michigan, recommends that parents do some research to find out whether they can get a tax deduction by using their state’s college savings plan, usually in the form of a 529 plan.
Once you’ve selected a plan, you’ll have to decide how to allocate your investments.
Oliver recommends considering age-based investment options, which simplify the process. Generally, parents only need to decide if they want a conservative, moderate, or aggressive portfolio. After that, it’s all hands-off: each plan will automatically switch from taking an aggressive approach at the outset to being more conservative as a child reaches their teens. Many 529 plans, including state college savings plans, are now offering this as an option.
A major milestone like a birthday is the perfect opportunity to set up a college savings plan, since parents can ask for donations to the fund in place of gifts. That’s what Oliver did after his twins, who are now eight years old, were born: “We asked family and friends to contribute, rather than give them another toy that they don’t need.”
2. Take out a life insurance policy for yourself.
While you might not have needed life insurance before, having a child changes that.
“You have this whole other person who is now dependent on your income,” Oliver explains.
Generally, there are two types of life insurance you can choose from: term insurance and permanent insurance. Both will pay a benefit to your family if you die.
As the name suggests, permanent insurance protects you throughout your life. Term insurance, which only provides protection for a specific period of time, will pay your family if you die during that time. According to life insurance nonprofit LifeHappens, some parents choose term life insurance policies that will provide coverage until their children graduate from college.
As a bare minimum, Oliver suggests that any life insurance policy that you take out should be enough to cover your outstanding debt.
That way, in the event that something tragic happens, your family won’t have to face that additional burden.
But if you can afford to take out more insurance than that, Oliver says, you should. Young parents still have their highest earning potential ahead of them, so their insurance policies should reflect that reality.
So how do you know how much is too much? “You can get a sense of perspective from an insurance agent, but realise that they have some skin in the game,” he says. It will also vary greatly from case to case. “I recommend working with a financial adviser who is fee-only, and doesn’t make a commission.”
You can use LifeHappens’ insurance calculator to get a general estimate, and learn more about the different options that are available to you.
3. Review your disability insurance.
Most people forget about disability insurance, which is just as important as life insurance when it comes to taking care of your family in the eventuality that you’re unable to work.
Both short term and long term disability insurance guarantee you have a source of income if you’re unable to work due to injury or illness. Unlike worker’s compensation, it doesn’t matter if your injury or illness is work-related.
Short term disability insurance usually pays you a percentage of your salary for three to six months, while long term lasts an average of 2.5 years.
Though most people who work for a large company will receive disability insurance as part of their benefits package, Oliver suggests looking closely at the plan to make sure it will meet your family’s needs.
“In a typical group policy, disability insurance plans cover 50%-65% of your income. Depending on what’s going on with your finances, that may or may not be adequate,” he says.
If you have a large amount of debt, for instance, or unusually high living expenses, you may need to supplement your existing policy. There’s no set formula to determine exactly how much disability insurance you need, but LifeHappens’ calculator can give you an estimate based on your current income and monthly expenses.
Many young parents aren’t covered by disability insurance, Oliver adds, since they are either self-employed, work for a small company, or do freelance work. As the workforce is becoming increasingly mobile, it’s up to individuals to make sure that they’re covered in case an injury or health issue prevents them from working for a period of time.
4. Make an estate plan.
“At a minimum, you need to get a will in place so that you can name a guardian for your child,” Oliver says. But it’s also a good time to start getting other estate planning documents in place, like your financial and medical powers of attorney.
5. Start — and keep to — a budget.
Having a child changes everything, including the way that you handle your money.
“Some people can get away with not tracking expenses or having a budget because they’re earning more than they spend, so the details of what they spend really aren’t that important,” Oliver says.
But with a child, day-to-day expenses go up, and you have to factor in a long-term goal like a college plan. As a result, having a budget becomes a necessity.
“After our twins were born, we focused on tightening up our budget and looking at where our expenses were,” Oliver says, “especially since we had a two-for-one deal.”
6. Build an emergency fund based on your new expenses.
Having cash reserves that you can access in case of an emergency is also crucial. “You have less ability to deal with uncertainty,” Oliver explains. “Let’s say you lose your job. It might not be that big of a deal if you’re only responsible for yourself, but once your kid is there, it’s harder to live on ramen noodles alone.”
With a financial cushion saved up, you’ll be in a more comfortable position if you end up making a career transition, need to move suddenly, or have a medical emergency.
How much money do you need in that emergency fund? There’s no strict dollar amount, since it depends on your family’s circumstances. Generally, six months of living expenses is a good benchmark for dual-income families. If there’s only one earner in your household, then you’ll want to save up eight months’ worth.
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