How insurance works

When we go about our daily commute to work, it is impossible to miss the huge billboards that flank our main roads and highways. The messages they carry are easy to read and understand. However, were you to get within touching distance of one of these structures, you would find yourself unable to make out the picture. You would just see large dots in different colours; you would not get the message or the picture. In fact, it would be one big blur.

Now imagine all the information you need to get ahead in life is on these billboards. If you never took a few steps back to read them, you would certainly be at a disadvantage.

This is pretty much how we approach money. We get wrapped up in day-to-day detail, taking care of immediate needs, and we do not step back to see the big picture.

Reactive instead of proactive

In general, people tend to be reactive rather than proactive when it comes to money management. We do not have goals or plans for the money we earn. Money comes in on the first of the month and runs out by the 30th (if we are lucky).

But not paying attention to how we spend is why most of us never seem to be able to build wealth.

The following statistics are quoted so often they have almost become a cliché, but they still bear repeating: the average South African spends around 80% of their salary on debt repayment, saves less than 2% of their salary, and only 5% will be able to support themselves in retirement.

While debt is a big contributor to the fact that we do not save enough, there are many other factors that cause our finances to derail. Effective money management is a little like a small child’s puzzle: there may be only ten or so large pieces, making the puzzle easy to put together, but if one of those pieces are missing, broken, or in the wrong place, it becomes impossible to form a perfect picture.

Every financial decision has an impact on our financial “cores”. The cores include medical, retirement, tax, money management, asset management, life cover, disability, short term insurance and estate planning. Even seemingly harmless actions in one area can cause a domino effect in others. For example, let's say your partner is between jobs. You both know it's a short-term thing and you are not too worried. However, times are lean, so in order to save some cash, you cancel your disability cover and your medical aid. After all, what are the chances of anything happening? You've got this far in your life without any disasters.

Incurring a loss

Then, on Monday morning, when you’re on your way to work, a 20-year-old in his dad’s 4-litre racing machine skips a stop street. Your car is a write-off, and you have broken bones. You cannot work for six months, and you have R150 000 worth of hospital bills. The family is dealing with added stress and other costs, and your partner may have to take time off work to sort everyone out. So potentially you incur a loss running into hundreds of thousands.

Suddenly, the R1 800 per month you saved on the disability cover seems a tragic mistake. This is the domino effect in action.

So what can we learn from this?

First, a good financial plan is not just about saving; it is also about hedging the risks. Even the best plan can unravel if you do not have the right pieces of the puzzle in the right places. So rule number one is to have your risk insurance in place. Before you make any kind of financial decision, draw a matrix and see what the potential impact will be.

Money is better than poverty, if only for financial reasons – Woody Allen (Actor)

(Lynda Smith/ Health24, March 2011)

(Picture: couple with piggy bank from Shutterstock)