A Familiar Question
Here's your riddle for the month - Which came first, the chicken or the egg?
Oh, you've pondered that one to no avail? Let's try another - Which came first, a slow economy or consumer belt-tightening? Okay, so that's not so tough. The economic slowdown occurred first, followed by layoffs. Then came September 11 and everyone became edgy, which further worsened an already unhealthy situation.
The result? Since September 11, layoffs at America's largest corporations have increased. This has lead to a worsened current and future economic outlook. According to the Federal Reserve's Beige Book (a compendium of reports from each Federal Reserve district on what’s going on in their sector), most Fed insiders feel it will now be the second quarter of 2002 before the economy starts its recovery. If you recall, not long ago, the last quarter of 2001 and first quarter of 2002 were supposed to mark the beginning of our economic recovery.
Some of this is fact and some of this is educated guess, but it's not meant to scare you. It is meant to sober you up enough to help you focus on what needs to be done now to soften the impact any job layoffs may have on you. So let's take a look at where you are and what you need to be doing.
Where are you?
How do you look financially? Do you have much cash, or have you sunk your life savings in the market and seen it cut in half?
Most financial advisors feel it’s necessary for you to have a cash reserve of anywhere between three and six months living expenses. If both you and your spouse work, and your incomes don't vary much, the three months reserve has generally been considered adequate. On the other hand, if one breadwinner supports the family, the six months reserve has been the benchmark. Given the current state of our economy, and the uncertainties surrounding our national security, we suggest you consider a reserve of six months regardless of how many breadwinners the family has.
If you’re not there, don't panic, just start working toward a realistic cash reserve. If you have a healthy portfolio of stocks and bonds, you can always liquidate those losing stocks. This would allow you to work toward a good cash reserve goal while realizing some tax savings, but remember you can only deduct net losses of up to $3,000 against ordinary income. Let's talk about this strategy before you implement it.
What kind of credit card debt do you carry? If you’re constantly maxed out on your credit line, devise a plan to start paying off the debt. There's few things worse than working for the credit card company and that's exactly what you are doing when you pay those monthly minimum payments. At this point, about the only real debt anyone should carry is the home mortgage and the automobile loan(s).
Where do you stand on your contributions to any employer-sponsored retirement plans? In a worst-case scenario, did you know that funds socked away in a qualified retirement plan couldn't be taken from you in a bankruptcy action?
Where are you going and how will you get there?
Where you are going is simple. You want to reduce debt to the minimum, increase cash to a target of six-month's basic living expenses and fund your retirement account to the maximum allowed by law.
Sounds simple doesn't it? Well, there are those pesky little things called the monthly bills that are getting in the way. And Christmas is just around the bend. And ... and ... and ... The "and" list could go on forever.
So what are you going to do to get where you want to go? You’re going to attempt the hardest six-letter action in the English language: Budget.
Did we say hard? Well, actually creating a budget isn't that hard. Whether you choose to believe it or not, you already have a budget. The only questions are 1) whether it’s a deficit based budget or a surplus based budget and 2) whether you follow the budgets.
If you’re not operating at a surplus, it’s time to take an axe to the budget numbers. Here is a general guideline of what your budget should look like:
20% - 25% - Housing, including rent/mortgage, repairs, improvements, taxes and insurance.
4% - 7% - Utilities, including gas/electric, garbage removal, telephone, water, and cable.
2% - 8% - Major purchases (washer, dryer, equipment, and furniture).
2% - 4% - Miscellaneous family needs including laundry and dry cleaning, personal hygiene, home furnishings, etc.
15% - 30% - Food, including the pets and dining out as well as groceries.
2% - 8% - Medical, including insurance, doctors, drugs, hospital expenses.
6% - 30% - Transportation, including car payments, maintenance, gasoline, insurance.
3% - 10% - Clothing
2% - 6% - Leisure activities
5% - 9% - Savings and investments, including retirement plans and rainy day funds.
1% - 4% - Other
Bear in mind these are recommendations only. However, they can serve as your road map to reducing worries over possible layoffs. Developing a budget that will allow you to begin, or augment, a savings plan is the best route to hedging your bets against a sour economy. In the event of a layoff, you will have at least saved something to fall back on.
Another tactic to reducing credit card debt is to take a look at your current interest rate. If you’re paying greater than 14%, it may be time to look at a new card. With competition intense, you can generally get a low, or no, interest credit card that will allow for balance transfers. During the time of the low/no interest rate, you will save substantially on interest and be able to apply your payment to the debt. Did we say pay more than the minimum? Well now we have. Start reducing balances as quickly as possible.
What if you do get laid off?
If you do get laid off, look at your options. In some cases, your employer may provide a good severance package. If they do, be sure to determine what insurance coverage will remain in effect. If your employer is large enough, COBRA payments may apply to force the employer to keep you on the current group plan. However, your share of the cost will skyrocket to 100% of the premium applicable to you plus a 2% administrative fee.
Don't rely on unemployment insurance payments. Of course, you should apply for the unemployment benefits in your state. However, the payments won't come near to replacing what you lost and they don't last forever. They are a fully taxable short-term aid to assist the unemployed.
Do not continue to live the way you lived before you were laid off. Tighten the budget as much as possible. Slash expenses where you can and, of course, start searching for new sources of income.
Our economy is currently in one of it's down cycles. With luck, the Federal Reserve Banks' forecasts will be correct and we will begin to experience a recovery in the second quarter of 2002. Given the current economy and the constant news we hear on the television regarding corporate layoffs, it's time you start planning for the worst. We can help. With our depth of experience in dealing with individual financial planning for clients, we know what will and will not work. Let us help you take a look at your present situation and how that can be improved to minimize the disruptions in your life if you are laid off.
Have a great month and a happy Thanksgiving!