How do you prepare a budget in today’s uncertain times? This is the question I received from a subscriber just before the holiday break. I think we can all see where this individual is coming from — we live in very interesting times. I have some ideas on how to address this issue.
Today we are faced with uncertainties relating to our jobs, the economy, the functioning of our government along with changing pandemic related restrictions on how we are able to conduct the activities of modern living. So when it comes to your cash budget how do you reflect this madness? I think the best way to do this is to prepare three budget scenarios – Best Case, Worst Case and Most Likely. Let’s explore what these mean and the key items to consider.
A Best Case budget would be if your job/income continues without interruption, you maintain work related benefits such as health insurance, manage your expenses closely and you fund your key targets for debt reduction and savings. The Worst Case would be that you lose your job and have to depend on any severance you receive and unemployment benefits for income while making other arrangements for medical insurance, reducing savings and debt service and cutting your expenses to the lowest level possible to stay solvent.
The Most Likely scenario is a middle ground where you assume your income will stay at a certain minimum level (e.g., 85%) of what you were making, you do not fully fund your savings and debt reduction goals and you reduce other living expenses commensurate with the reduction in your income. Overall by using this approach, you are looking at the best case but preparing for the worst. When you do this you may discover that you want to be more conservative in how you spend money to build an extra cash cushion to protect your household. You may also discover the need to add an additional source of income from a side gig.
When you are preparing these three scenarios here are some key matters you should consider:
1. Keep Your Insurance Coverages in Place. Saving money by letting go of your health, life, home, disability or other insurance coverages is one of the worst things you can do. Remember why you bought these coverages in the first place – to provide you with cash when it is needed most. If you let these coverages expire you are exposing your household to large potential cash losses. Some coverages such as your homeowners are likely mandatory by your lenders can’t be cancelled. In particular, don’t go without health insurance.
If you completely lose your job, carefully understand your options for continuing coverage under your employer’s plan using COBRA benefits and what is available to you under the Affordable Care Act (Obamacare). Also, remember for life insurance, if you cancel the policy you will likely need to go through the process of qualifying for a new policy and your health profile may have changed resulting in higher premiums or the inability to secure coverage altogether.
2. Carefully Control Your Spending. Given the volatile state of our economy and not knowing when we will get back to normal, I would think twice about making large purchases. Think through whether or not you need the product or service before purchasing and carefully price shop.
3. Don’t Tap Your Retirement Accounts. The last resource for cash should be what you have saved in your retirement accounts. Accessing these funds early will generate additional income taxes, create possible penalties for early withdrawal and set you back on your long-term savings goals. Avoid accessing these funds unless you run out of options.
4. Build Up Your Cash Balance. Carefully manage your cash and look to build up more of a cash cushion than you normally have by reducing debt service and investment purchases until you feel that the situation has improved and you believe your money flows are more certain.
5. Fully Fund Your Emergency Account. As you prepare the Best Case and Most Likely scenarios be sure to fully fund your emergency account. Work to put all extra sources of cash, including any stimulus checks you receive, into the fund. Having a fully funded emergency account is a must have not a nice to have.
6. Refinance Your Debts. As you prepare the Best Case and Most Likely scenarios, be sure to look to reduce your debt service costs. If you have not already done so and you have the ability to qualify, look to refinance any mortgage or student loan debt you have to take advantage of the low interest rate environment. This should result in lower monthly outflows and improved cash balances. Please pay close attention to the details of any student loan refinancing to make sure you do not lose any benefits related to the debt such as income based payments.
7. Put Bills on Hold if Needed. If you find yourself in real cash bind, many lenders and government entities have offered consumers relief from their usual financial obligations, and many creditors have been more understanding. If after looking at your budget this is your situation, reach out to your creditors to see what arrangements you can make. Do not be afraid to do this. If you are in a tough spot, being proactive is the best thing you can do.
8. Don’t Increase Your Credit Card Debt. In a zero percent interest rate world, paying 15% to 18% for credit card debt is not wise. If you use credit cards, use them sparingly and pay off the balances as quickly as you can. Consider this as you construct your budget. For example, is it better to spend money on subscriptions for services you use infrequently or would it be better to use that cash to pay of high interest credit card debt?
Summary
When you are dealing with uncertain times the best action you can take is to prepare your household for what may happen. Being prepared for the financial twists and turns of this crazy time will reduce the stress and anxiety your household could feel. Taking time to carefully budget your cash income and outflows to make sure you can make it through tough times and changing economic circumstances protects your household and will improve your ability to deal with the situation. It will give you improved peace of mind.
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