When inflation is high and the U.S. Federal Reserve raises interest rates, businesses may slow down production since the cost of borrowing money will be more expensive. Some fear that if the Fed reacts too harshly, this may even send the entire economy into a recession leading to potential job losses.
While everyone hopes for the best, it’s also a smart idea to be prepared for the worst. To support that logic, here are five tips to prepare your finances in case there is a recession.
1. Build up your emergency fund
In both good times and bad, it’s always a wise idea to have an emergency fund. An emergency fund is a stash of funds that you can use in case of an unplanned situation. This might be for something such as:
- An expensive car repair
- Replacing an appliance that stopped working
- A medical bill that wasn’t covered by insurance
- An unexpected job loss
Ideally, your emergency fund should be three to six times your monthly living expenses. This account should also be liquid and easily accessible. Don’t tie up your emergency funds in investments, because they may fluctuate in value or make you wait several days before you can withdraw the money you need.
2. Pay off your debt
When there’s economic uncertainty, you want your cash flow to be as flexible as possible. However, nothing constricts your budget quite like debt. This is especially true when it comes to high-interest debt or accounts with late fees.
If you’d like to pull yourself out of debt but don’t know where to start, a good strategy to try is the debt snowball method. The debt snowball is where you arrange your debts in order from smallest to largest balance. Strategically pay off the debt with the smallest balance first, and then carry that payment over to the next smallest one. Each time you repeat the cycle, your payments will grow (like a rolling snowball) until you’re eventually debt-free.
3. Get a life insurance plan
If you haven’t already, then you want to get an individual life insurance plan. Although you may have life insurance through your employer, consider what would happen if you were suddenly laid off. There’d no longer be any financial protection for your family.
If affordability is one of your concerns, there are plenty of great term life insurance plans that can fit into any family budget. However, if you’re looking for one that has the investment feature of cash value, then check into permanent life insurance plans like whole life or variable universal life.
4. Raise your credit score
If you do end up in a situation where you need to borrow money, then you’ll want to look as creditworthy as possible to lenders. An easy way to do this is to improve your credit score.
Many people can raise their credit scores by setting up automatic payments so that they’re always paid on time and in full. It also helps to avoid using more than 30 percent of your total available credit and to limit any new inquiries against your credit history.
5. Don’t change your retirement plan
During a recession, it can feel a little foolish to contribute to your retirement account when the economy is essentially losing money. However, don’t abandon your retirement plan.
Many people forget that the absolute best time to invest is when the markets are down. Although it can seem like you’re throwing good money after bad, you’ll actually be acting very strategically by putting yourself in the best possible position for financial gain once the recession comes to a close.
The bottom line
When recessions strike and money is tight, you should free up as much of your cash flow as possible by paying off your debts. Help protect yourself by building up an emergency fund, having a life insurance plan, and raising your credit score. Finally, don’t forget to take advantage of a down market by continuing to contribute to your retirement plans.
This article is for informational purposes only and is not a solicitation for insurance.
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