I asked financial planners how to recession-proof my finances and they gave me 7 simple tips
- While no one can predict a financial downturn, I want to make sure I'm prepared. I asked five Certified Financial Planners (CFPs) how I could ready my finances for a potential recession.
- Cutting expenses, paying off debt, and building an emergency fund are crucial to weathering a recession. You may want to rebalance your portfolio as well.
- Proactive folks will want to have extra funds available to take advantage of low-cost investment opportunities, and it's also important to continually update your career skills and network.
- A financial planner can help you get your money in top shape. Use SmartAsset's free tool to connect with a qualified professional today »
When the last recession hit, I remember watching my loved ones struggle for years afterward. Some lost jobs and ended up in debt they're still paying off, while others had to postpone retirement or transfer to more affordable colleges. Everyone I knew was affected.
Now that there's talk of another recession looming ahead of us, I want to make sure I'm fully prepared. While there's no way to make your finances immune to a recession, you can get to a place where you're able to weather a downturn and come out relatively unscathed.
Knowing this, I asked five Certified Financial Planners (CFPs) how to recession-proof my finances, and here's what they said.
1. Create a budget and live below your means
Most people assume that if they can afford their current lifestyle without going into debt, they're on solid ground. However, if you're left without much disposable income after paying the bills each month, you're not leaving yourself any wiggle room. This becomes dangerous during a recession when job loss and salary cuts are common.
"Living below your means is key," Tom Lalley, CFP at MAI Capital Management tells me. "This process starts with making a budget."
A couple of years ago, I recorded my monthly income and expenses and found areas where I could immediately cut back. Now, I make significantly more than I spend, which helped me pay off debt and build an emergency savings fund.
2. Have an emergency fund
If you do one thing to prepare for a potential recession, building an adequate emergency fund should be it.
"Having enough cash to brace for a slowdown will mean less likelihood of drawing down retirement accounts and spending on credit cards," explains Greg Wells, CFP and senior vice president at EP Wealth.
Six months' worth of basic living expenses is a typical guideline for how much money to put in your emergency fund, but Wells notes that some people might need up to two years of basic living expenses, depending on their job.
Since I'm self-employed, I keep nine months to a year's worth of expenses saved up.
3. Pay off high-interest debt and be cautious about taking on new debt
The last thing you want to go into a recession with is overbearing debt. If your income takes a hit, fixed monthly expenses like a big mortgage, credit card payments, or car loans can drain your cash reserves and leave you unable to meet financial obligations.
I keep my fixed expenses well below what I can afford, even when I have to sacrifice some comfort, because it makes me feel more financially secure.
Lalley explained to me that, according to lending standards, your mortgage or rent payment should be less than 28% of your monthly gross income, and your total recurring debt payments should be less than 36%.
So if you make $50,000 annually before taxes, your rent or mortgage should be below $1,166, and your total monthly debt payments shouldn't exceed $1,500.
"Keep in mind that this is from a banker's point of view," said Lalley, so you might want to be even more conservative.
4. Open a line of credit
While covering emergency expenses with cash is ideal, sometimes you need to borrow. It's better to have access to low-cost lending, just in case, than to find yourself relying on expensive credit cards to make ends meet.
Wells recommends opening a line of credit now, such as a home equity line of credit (HELOC), that can act as an emergency fund if needed. These typically come with lower interest rates than a credit card.
Shaun Melby, CFP at Melby Wealth Management, agrees, explaining that if you wait until a recession hits, you might not be able to get approved for low-cost credit.
"You'll want to do this ahead of a downturn as banks' lending standards are much tighter during a recession," he says.
Since I don't have a mortgage, Melby recommends a business line of credit (for business owners) or an unsecured personal line, but admits that the interest rate will be higher on credit with no collateral.
5. Start an opportunity fund
All of the above advice will help me avoid drowning during a recession. However, if I want to do more than barely float by - if I want to leverage the recession to build wealth - Melby recommends increasing my cash reserves for future investment opportunities.
"While this will run contrary to what your gut tells you, a recession is the perfect time to invest in stocks," he explains. "A $100,000 investment in the S&P 500 during January 2009 would have been worth roughly $284,000 as of the end of December 2018."
Other assets, such as real estate, also tend to be sold at a steep discount during a recession. If you can up your savings and create an opportunity fund, it will pay off in the long run.
6. Don't be afraid to invest, but consider rebalancing your portfolio
I'm finally at a point where I'm ready to invest more aggressively, but all the recession talk has me worried. Wells advised against trying to "time the market" and said to invest no matter what.
"Nobody knows when recessions are truly coming or when the market is actually high or low," he told me. "Typically, the market performs very well right up to the beginning of the recession, so you don't want to miss out on that waiting for a recession to happen." If the market drops, double down on those investments.
It's also important to check in with your investments once in a while to make sure they're properly allocated.
As you near retirement age, you don't want to be taking on too much risk, so it could be time to adjust your portfolio. Certified Financial Planner Liz Windisch stresses the importance of having a long-term plan for your investments and being ready to stick to it.
She says, "Identify your comfort zone, and don't veer from it or second-guess your choices when your investments take a hit."
7. Build your skills and grow your network
As someone who is self-employed, I understand the importance of constantly updating your skills and growing your network. However, people with full-time jobs often take that stability for granted.
Certified Financial Planner Patti Black warns against this, pointing out that no job is guaranteed. However, she says, improving your skills and expanding your network may increase the likelihood that you'll remain employed during the next recession.
Windisch recommends updating your resume and LinkedIn profiles now, as well as reaching out to other professionals regularly. You can also beef up your skills by undergoing additional training or gaining extra certifications. This will help you stay competitive.
Talk to a financial planner today about how to recession-proof your finances. Use SmartAsset's free tool to find a qualified professional »
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