When one size fits all, none are fit well

By Chuck Jaffe, MarketWatch

BOSTON (MarketWatch) -- When one size fits everyone, you can bet that most people are improperly covered.

That's because proper fit is different from something that provides coverage in a fashion that is too baggy or too tight, too long or too short, or simply odd.

The same goes for generic financial advice that is thought to apply for everyone.

While consumers and investors desperately want rules and guidelines that can take them directly to the promised land of smart personal finance, the reality is some of the most common one-sized advice actually fits few people well.

Last week, this column focused on some common savings and investing rules that people tend to follow blindly, thinking that they are sound formulas.

This week, we'll look at five more financial rules of thumb, pointing the fingers at the flaws in these common misconceptions about insurance, spending and savings. If you follow these rules, you should review your situation to see if you are the rare person these suggestions actually fit.

To retire comfortably, your investments must generate 70 percent of the income you earned while working:

This is one of the most dangerous -- and most widespread -- financial rules of thumb, because it ignores virtually all critical factors and influences.

In short, it's no better than a guess.

Your retirement income needs are a function of life expectancy, inflation, and spending, not previous salary. If your idea of retirement is foraging for nuts and berries while camping in national parks, you'll need a lot less money than if you want to cruise the world on a luxury liner.

This formula forecasts a cut in key living expenses when you are in retirement, assuming you'll have paid off the mortgage and won't have other costs associated with working.

But most people don't want to live out their remaining days with a 30 percent reduction in available spending money. For anyone who wants to avoid that kind of cut, aiming at this 70 percent target leaves them short of the standard of living they hope at achieve.

Life insurance benefits should equal five times current income:

A long-time insurance industry marketing ploy, this formula is another feel-good guess.

Buying coverage valued at five times income may be appropriate for the sole breadwinner in a family with two kids -- although the family's lifestyle determines if it's correct -- but it's completely inadequate for larger families, and it's a money-waster for anyone without children.

Anyone looking at life insurance and trying to buy sufficient protection without overspending on coverage they don't need should go through a detailed needs analysis, based on individual circumstances and the level of support necessary for the family.

Always use borrowed money to pay for your home:

With interest rates at historic lows over the last few years, this rule has become that much more ingrained in many consumers, but that still doesn't make it right for everyone.

The logic here is that you want to capture the mortgage-interest tax deduction.

While the deduction is a big help on April 15, it's not always the way to go.

Paying ahead on your mortgage -- which cuts both the amount owed and the total potential deduction -- gives you a guaranteed rate of return (equal to the mortgage rate, since you will never pay interest on money that is prepaid) for your dollars. Owning your home free and clear creates peace of mind, erasing the burden of a big monthly payment and the thought that some bank is lurking, waiting to take over in the event of a financial disaster.

In addition, with a growing number of forecasts predicting a cool-off in real estate prices in the near future, leveraging your home to the max could increase the family's vulnerability during a rough economic cycle.

Getting the tax deduction and using credit to increase your purchasing power is fine, but not at the cost of peace of mind.

Homeowner's insurance should match your purchase price or cover the cost of your mortgage:

The wicked hurricane season of South Florida last year showed just how many people fall for this outrageously dumb idea.

If you worry about the purchase price, you may be paying for excessive coverage - a fire or storm typically doesn't destroy the land on which the home sits, although the price included that property -- or leaving yourself vastly under-protected, if the mortgage is a fraction of the home's replacement cost.

The only standard that matters in these situations is that your coverage provides enough money to rebuild your home. When the policy pays replacement cost, it means that you'll get your money's worth in the event of a disaster, and that's what you have insurance for.

Keep three to six months of salary in an emergency fund:

For many people, gathering an amount equal to six months' worth of take-home pay could take a few years.

That's why determining an appropriate emergency reserve is an individual decision that takes into account everything from an individual's disability insurance coverage, available sources of credit, and ability to borrow against retirement plans, to the income level of a spouse or partner.

To set an appropriate reserve, consider the chance for a personal disaster and the potential costs you'd have in that worst-case scenario. Emergencies run the full gamut, from health problems or job loss down to car wrecks or the immediate need to replace a big-ticket household appliance.

If you are debt free, credit cards and lines of credit may suffice as emergency protection, and shorten the kind of reserves you need to build. If you have debt or fear a protracted period of unemployment, the full six-month cushion might provide peace of mind.

Most importantly, whenever your personal or financial circumstances change -- from the birth of children to being part of a corporate takeover to getting remarried, to retiring -- the way you calculate your appropriate emergency reserve changes too.