Last week’s disappointing jobs report has underscored what many of us already knew – we are still not out of the woods. What we are now experiencing is turning out to be one of the longest recessions since the Great Depression.
The current economic and political climate, as well as the projections for the near future, have convinced me of one thing – there has never been a better time to get out of debt and build an emergency reserve of cash. That’s right, the day of debt reckoning has arrived.
Yes, I do say that to alarm you. I think people need to be alarmed. Some people need to take off their rose-colored glasses, remove their political hats, ignore their favorite celebrities, and look at the stark reality we face. Our country is bankrupt. We are at war. We are tearing ourselves apart along the lines of Left vs. Right, and they have both been wrong.
I don’t know what might happen in the next year or two. None of us do. However, I do know this – those who have freed themselves of the burden of debt, built an emergency fund, and made adequate preparations for a worst-case scenario, are those likeliest to succeed – even thrive – in the coming years.
This is where I differ from others in the personal finance realm. I think the number one priority for anyone, particularly those with a family with people depending on them, is to build a six-month emergency fund of liquid cash to cover basic household expenses (food, rent/mortgage, utilities, transportation). I don’t care how much debt you have. I don’t care how much interest you are paying. You have to start building a cash reserve…now.
Why a six month emergency fund? The average unemployed person in America has been looking for work for 39.7 weeks, so we really aren’t even covering that full period of average unemployment, but it’s a start.
Most disability insurance policies have a six-month waiting period. If you get sick, or are injured, and cannot work, it will likely be six months before your disability coverage kicks in.
Why not nine months, or a year? If you are still deep in debt, you must start paying down that balance. Six months of savings is a good point to make the switch from savings to debt repayment. Once completely debt free, I think everyone should have a full 12-month emergency fund.
The Four Pillars of Paying Off Debt
1. Pick a plan, any plan. There are plenty of “get out of debt” plans floating around out there. A couple of my favorites are the debt snowball, made popular by Dave Ramsey, and the Debt Tsunami, which advocates giving an even higher priority to emotions elicited by a particular debt, and using that emotion to prioritize a repayment plan.
Both plans largely ignore interest rates, unless everything else is equal, as a determining factor in which debt should repaid first. I generally agree with this approach, as the emotional “win” from paying off a low-balance debt quickly is more valuable than paying a little more interest on a larger balance.
However, I don’t think completely ignoring interest rates is the perfect solution either. After all, paying down a large credit card debt at 19% interest while making the last nine minimum loan payments on a 3.99% car loan with a smaller balance seems to make a lot of sense, from purely a financial perspective.
On the other hand, paying off that small car loan balance in three months, and freeing up another $400 a month that used to go towards car payments, may provide a quicker win in your own plan. Do what works for you.
2. Keep it simple. Whatever plan you choose, my best advice is to keep it simple. The more elaborate the plan, the less likely you are to stick with it. That’s just human nature.
Ask anyone who has tried (and failed) elaborate diets how successful they were month after month. Chances are, somewhere along the way, they slipped. Not that slipping is necessarily bad – we will all do it, but if we have a simple plan to begin with, it makes it that much easier to get restarted.
3. Stop spending. This one is probably the most obvious, but it also the most difficult. People who spend more than they earn on non-essential items are often trying to fill an emotional void. That was certainly my case. I bought stuff because it made me feel good, because I was bored, and because I was trying to keep up with others who made much more money than I did.
Of course, others are swiping their credit cards because they have no cash, for a variety of reasons – some quite legitimate. This prolonged recession (when will we finally admit this is a depression?) has left many, many people unemployed and under-employed. In fact, a record 44.7 million people are now receiving food stamps.
That means a lot of families out there are having to decide between swiping the credit card, or going without food, gasoline in their cars or paying an electric bill. Chances are, many of these families have already cut most frivolous spending from their budgets. If not, or if you find yourself in debt, but not to the point of having to ask for assistance, I plead with you to radically change your spending habits and start working to pay down debt (after establishing a minimum 6-month emergency fund).
4. Increase your income. Earlier, I mentioned #3 was by far the hardest step. However, in today’s climate increasing your income is a very close second. Many families have been hit by layoffs, with one or both spouses losing their jobs. Self-employed people have seen work dry up, particularly those involved in residential construction and similar industries.
I think we are living through a monumental shift, a turning point. For the last 50-60 years many families made their living by working at a factory, or for a city, or a utility or similar, large institution. They were offered pensions and health benefits after reaching retirement. Their jobs were relatively stable, as was their income.
However, things are changing. Many manufacturing jobs have left, and will likely never return (at least not in our working lifetimes). Politics have made public-funded pensions and benefits an endangered species, and likely a thing of the past. No longer can one count of getting a college degree, finding a job and working there for 30 years until retirement.
New generations will have to be much more adaptable, much more creative in their ability to earn a living. They will have to create a variety of income streams by cultivating a combination of their personal and professional talents and interests.
- White-collar professionals may find themselves building privacy fences and decks on the weekends (or going full-time with a popular blog).
- Teachers may host tutoring workshops after school to earn extra cash.
- Policemen may start landscaping companies to supplement their income.
- Nurses may offer to watch an elderly person in poor health to relieve caregivers.
The possibilities are endless, and in reality, we already see many examples of these types of things happening. The difference is that in the past we looked at people with two careers (or a side hustle) as a bit odd – like they were workaholics or people lacking the ability to pick a career path and stick with it.
Going forward, this will be the norm. And those not looking to diversify their income will be the hardest hit every time there is a downturn.
Get creative. Coordinate a block yard sale with neighbors and split the advertising costs. Build a blog about whatever it is that interests you and write about it. Engage with others online in your area of expertise or fields of interest. Ask your current boss if there are any overtime opportunities. Put in applications for part-time work.
Use every single extra dime you can scrape up to put towards that 6-month emergency fund, and then towards your debt repayment plan.
I’ve never been more convinced that this is the time to get out of debt. And if I’m wrong, and things suddenly turn around and the economy booms, you’ll still be better off without debt and a solid emergency fund.
You will be able to seize opportunities others can’t. You will free up income to make investments others will miss (yes, I’m still bitter about being in debt back in 2008 and missing the many opportunities during the “recovery”).
The bottom line is this…you have to start today.
Ignore the television tonight, sit down with a pad and pen and list your debts. Figure out how long it will take to save six months of basic expenses. List things you can sell to make that happen even faster. Brainstorm ideas for increasing your primary income, and for creating new income streams. Now’s the time.