How to Create Your Personal Financial Protection Plan

September 7, 2019

Get Started Today – Recession Is on the Way

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There’s a recession coming. Not sure on the when, but best guess is pretty soon. By taking specific financial steps right now, you’ll have an easier time when the recession hits.

Doing pre-damage control now can keep your finances from getting wiped out completely, leaving you in a vulnerable financial position. This won’t be easy, but things will be worse if you don’t get out ahead of any potential problem areas.

The key is to know everything about your financial situation so you can fix what needs fixing and strengthen your strong points. Once you know all that, you can create your own personal financial protection plan in just a few steps.

Need help getting your finances in fighting shape? Contact me at [email protected] for a free consultation today.

Step 1: Know Your Situation

It’s hard to take a close look at your finances, especially when they’re in bad shape. But you need a full and true picture of your current financial situation to move forward. And even if your finances are in terrible shape, you can fix them. When you can see the real picture, rather than going with what you think it looks like, you can make the right plan for what to do next.

To do this the right way, you’ll look at every aspect of your finances, not just the big stuff (like debt) that most people focus on. Everything matters, from your take-home pay to your spending habits to your emergency and retirement savings. Once you see how everything feeds into your full financial picture, you’ll be able to make strong choices to make your financial situation more secure… no matter when a recession comes.

You Are Where You Are

No matter what your financial situation looks like right now, that’s your starting point. Whether your finances are in decent shape but you want to them forward or you’re having trouble making ends meet, that’s where you are. Either way, the most important step you’re going to take is the next one.

That doesn’t mean the path that got you here doesn’t matter – it does. You have to know how and why your finances got to this point in order to move forward in a different way. This can bring up some pretty nasty feelings, like self-judgment, anger, guilt, and fear – and those negative feelings can sabotage your plans. Accept your situation for what it is, acknowledge the actions that brought you here, and get ready to make a plan to take control of your forward finances.

What You Need to Know About Your Finances

Your financial picture is more than paychecks, bills, and loan payments. Those are things we look at regularly, but they’re just small pieces of the full picture. Looking at your big picture will give you a new perspective, and better read of your overall financial health. Plus, it will serve up some clues about the best next steps.

To see your big picture, you’ll need to know:

  • Monthly income and expenses (how much money comes in and goes out)
  • Monthly cash flow (when money moves in and out)
  • Credit score
  • Debt details (balances, monthly payments, interest rates, and expected payoff dates)
  • Retirement account information (balances, current contribution amount, asset allocation, and average annual returns)
  • Investment and savings account balances
  • Net worth

All of these pieces feed into your financial situation. Yes, they’re driven by the past, but they also provide direction for the future.

Step 2: Build a Budget That Fits Your Life

When you think about budgeting, cost-cutting and sacrifice probably come to mind. But that’s the exact opposite of what budgeting is all about. Think of it more as pre-planning how you want to spend your money, so you always have enough to pay for the things you want. That might include saving for a vacation, trying new restaurants with your friends, stashing money in a retirement account, or growing your net worth.

When you plan ahead for how you want to spend your money, you won’t come up short or use your money for things that you don’t really need or want. And when you know where your money is actually going – which almost always surprises people – you can take steps to adjust your spending to match your goals.

This is especially important when recession is looming. Building up savings, paying down debt, and cutting back on unnecessary expenses will get your finances in fighting shape to face the downturn.

Bottom line: Your budget will make sure that you can afford the things that are important to you, whatever those things are, and get through the recession with as little financial pain as possible. You can find everything you need to know about budgeting – including how to create a budget that works for your life – in my book Budgeting 101.

Step 3: Minimize Your Debt

No matter what’s going on in the economy, having debt (especially high interest debt) hurts your overall finances. That’s especially true during a recession, when money is tighter and you can’t really afford having a chunk of your hard-earned income going to pay interest to someone else. The more you reduce your debt, the less interest you’ll pay – and that means more money you get to keep. If you have a lot of debt, you’ll need to create a paydown plan to help you get rid of it. Now that you have all of your debt details, it will be much easier to decide how to tackle it. The best way to do that is to focus on paying down one debt at a time (while still making monthly payments on all of your debts. You can find details about how figure the best debt pay-down plan for you here.

You’ll also want to know two key debt-related numbers: your DTI and your utilization.

DTI, or debt-to-income ratio, measures how much debt you have compared to your income. It gives you an idea of how much of your paycheck goes toward paying down your debt. Experts recommend keeping your DTI below 43% (because that’s what mortgage lenders look for), but lower is definitely better. Shoot for a DTI of 25% or less – that gives you a lot more financial flexibility, especially during tough times. You calculate DTI by dividing your total monthly debt payments (mortgage, student loans, credit cards, etc.) by your total gross monthly income (your pay before taxes and other deductions, like health insurance premiums or retirement plan contributions). You can learn more about your DTI here.

Your utilization – also known as your credit utilization ratio – is also important, and not just because it feeds into your credit score. This number shows you what portion of your total available revolving credit you’re using right now. Again, the lower this number is, the better.

You can calculate your utilization by dividing your total current outstanding credit card and HELOC balance by your combined credit limit. For example, let’s say you have three credit cards and each has a $2,000 credit limit and a current balance of $1,200 due. Your combined credit limit would be $6,000, and your total outstanding balance would be $3,600. That would make your utilization 60% (3,600 / 6,000), meaning you’re using 60% of your available credit.

Revolving credit refers to loans where you can borrow money over and over again without having to take out a new loan, like with credit cards or home equity lines of credit (HELOCs).

Step 4: Pay Attention to Your Finances

To stay on top of your finances, you have to keep an eye on them. Not so often that it stresses you out, but often enough that you can catch problems before they spiral out of control.

To monitor your overall financial health, check on these five numbers at least once a year:

  1. Credit score
  2. DTI (debt-to-income ratio)
  3. Credit utilization ratio
  4. Retirement account balance
  5. Net worth

Track these numbers to see whether they’re moving in the right direction. You want your net worth, retirement account balance, and credit score to go up, and your DTI and credit utilization ratio to go down. Don’t worry if these numbers sometimes move the wrong way – it happens, especially in a recession. As long as you’re staying on top of your finances, you’ll be able to make sure they don’t move too far in the wrong direction, and start taking steps to get them moving the other way.

Get Help When You Need It

If dealing with all of these numbers feels like too much, there’s help out there. If you want to DIY, use apps like Mint or Personal Capital to help organize your finances. If your debt is out of control, find a reputable credit counselor to help you get it under control. And if you just want someone to look at everything and help you come up with a plan to get your finances in order, contact me here.

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