Dear Liz: My husband and I have been aggressively paying down our debts and plan to be debt free by this time next year. We’re devoting about 20% of our income to debt repayment and saving about 6% (not much, I know, but we’re young and just starting out). We were building an emergency fund and currently have enough money in it to cover only a few months of our expenses, since we had to dip into it recently for unexpected car repairs.
My husband just lost his job. I make enough that we would just barely be able to cover all of our minimum payments and our bills, but my employer lost its biggest client and I may be out of a job soon too. Should we continue to make the same debt payments, reduce the amount or make only minimum payments until we are both securely employed?
Answer: As soon as you know that unemployment is a possibility, you should begin to conserve cash. That means making only the minimum payments on your debt and cutting your expenses to the bone. Although the job picture is improving, the average duration of unemployment is still close to 40 weeks. That’s a long time to go without a paycheck.
When you’re both employed again, you should reconsider your financial priorities. Getting out of debt is a great goal, but not all debt is created equal. Paying off credit cards should typically be a high priority, but you needn’t be in as much of a rush to pay off federal student loans, car loans or mortgages, because the rates on these debts is typically fixed and relatively low. Instead, make sure you’re taking advantage of retirement savings opportunities and building up a cash cushion to tide you through the next financial setback.
Dear Liz: I have been granted a Chapter 7 bankruptcy discharge of all my debts. I’m now debt free and plan to stay that way. I’ve been saving like crazy and have enough to afford a cross-country driving trip to attend my son’s wedding. I’d like your advice on using prepaid debit cards to cover expenses such as fuel, food and lodging. My plan is to load each of three cards with an amount of money to cover each category of expense, based on my best research estimates, as a means of controlling how much I spend. If you feel this is a good plan, which would be the best brand of card to use?
Answer: Your determination to stay out of debt is admirable, but prepaid cards are problematic. You don’t have the same federally mandated consumer protections you have with a debit or a credit card, so merchant disputes or a lost or stolen card can wind up costing you big time.
Furthermore, these cards can be expensive. You often pay to activate the card, to load it with cash and to access the cash in transactions. Card comparison site NerdWallet.com studied 40 popular prepaid debit cards and found that the average card cost nearly $300 annually in basic fees. Monthly fees of up to $14.95 took the biggest toll, but $1 to $2 fees per transaction and for ATM use could easily cost a typical user more than $20 a month.
If you’re convinced prepaid cards are the best money-management tool for your situation, though, you might want to choose the American Express Bluebird, which was dramatically less expensive than its competitors in the NerdWallet study. The Amex card charges no monthly or per-transaction fees and allows for direct deposit. ATM withdrawals cost $2 apiece and cash reloads are just a buck, compared with an average of $4.50 with other cards.
Eventually you may want to look into getting a secured credit card to help you rebuild your credit scores, since prepaid cards won’t help with that. A secured card is one in which you make a deposit at the issuing bank, usually between $200 and $1,000, and get a card with credit limit equal to your deposit. You don’t need to carry a balance on these cards, but you do need to have and use credit if you want to rehabilitate your battered credit. NerdWallet recommends the secured cards issued by Orchard Bank and Capital One.
Dear Liz: How does a family without any income qualify for assistance? My son-in-law has had an Internet business for a few years. He did okay for a while, but not lately. Because he owns his own business, he can’t get unemployment. We’re paying for everything and can’t do it much longer. My daughter has a special needs child and is a stay-at-home mom. The kids have medical insurance, but the parents don’t. What steps are available to them to get the help they so desperately need?
Answer: If your son-in-law incorporated his business and paid into his state’s unemployment fund, he may qualify for benefits. If not, he can start his search for help at Benefits.gov, which is a federal Web site with links to a variety of assistance programs.
The fact that you’re helping the family financially is a blessing to them—but the fact that you’re “paying for everything” is a huge red flag. Families can fall upon tough times, but responsible ones have some savings they can tap and are diligent about finding ways to make money, even if it’s not as much as they were able to command in the past. If they can’t make ends meet, responsible families make changes—sometimes drastic changes—until they can.
What responsible families don’t do is continue relying on relatives until those relatives are bled dry. If your son-in-law isn’t actively looking for a job, he should be. If your daughter is the more employable one and can find work, then he could take over the child-care duties.
They may not take these steps if they think they can still count on you to pay the bills, so you need to be straight with them about your inability to continue supporting their family.
Dear Liz: I’m a mother of two children and I work part-time. On top of that I go to school full-time. Even though I receive financial aid, I still have trouble saving money on a tight budget. How can I do it?
Answer: Saving money in your situation is tough, but it’s not impossible. The most important thing is to make it a priority. In other words, don’t wait until you’ve paid your bills and otherwise spent your paycheck to figure how much is left over that you can save. Instead, pay yourself first by setting up an automatic transfer that moves some amount of money — however small —from your checking account to your savings account. The transfer should occur the day your paycheck is deposited, if possible. Even small contributions build up over time, and you’re unlikely to miss the money if you make the process automatic.
If you’ve found yourself raiding your savings for non-emergencies in the past, then decide now under what circumstances you’ll tap your funds. A car repair may be a good reason. Dinner out, even if you’re bushed from all that working, mothering and studying, probably is not. If you really can’t keep your hands off your savings, you may need to move the money somewhere that’s harder to access. You could set up an account at an online bank or at a bank or credit union that’s different from the one that holds your checking account.
Another issue that prevents many people from saving is that they spend too much on their so-called fixed, or basic, expenses. If too much of your income goes to rent, food, utilities and transportation, for example, you may have continual trouble making ends meet. Trimming those expenses can have a profound effect on your ability to save.
Following frugality-oriented websites can give you ideas for reducing your expenses as well as encouragement that your sacrifices will be worthwhile. As one blogger put it, saving money isn’t about deprivation, it’s about gaining control. When you make the decision to save, and follow through with action, you’re putting yourself back in control of your spending and your own life.
It won’t be easy, but remember you won’t always have to work this hard. Your education should result in bigger paychecks that will enable you to save more easily — as long as you continue to pay yourself first.
Dear Liz: You’ve written about the 50/30/20 budget structure that people should strive to achieve. As you said, it’s a difficult feat. But here’s my question: How does one even come close when you live in a major metropolitan area? In my particular case, home values in my area have remained intact in many places and demand for apartments is so high that vacancy rates are the lowest in the nation. To get into a relatively safe neighborhood with access to public transit, rent is over $1,000 with a roommate or two. Finding that 50/30/20 balance seems impossible for people who live here and we can’t all just relocate.
Answer: If you live in a high-cost area but don’t have a high income, you’ll need to get creative if you want to keep your “must have” expenses—shelter, food, transportation, child care, minimum loan payments and insurance—under 50% of your after-tax income.
Many people in high-cost areas devote 40% or more of their incomes to shelter costs, which makes it all but impossible to have enough money left over for their “wants” (clothes, vacations, gifts and other non-necessities that should consumer 30% of their after-tax incomes savings, according to the 50/30/20 plan) or savings and debt repayment (which should consume 20% of your after-tax income under the plan). The result is a perpetually unbalanced budget, which often leads to more debt and lots of anxiety.
But people have come up with various solutions to better balance their budgets. Blogger Donna Freedman was an apartment manager for several years, which helped lower her shelter costs. Fred Ecks, who retired in his 40s, lived on a boat to reduce his rent in notoriously high-cost San Francisco. Other people have exchanged their services for free or reduced rent—by babysitting or serving as a companion to an elderly person.
If you can’t find a solution that lowers your housing costs, you have two options: continue to live with a lopsided budget, and accept that you may never be able to achieve a balanced financial life, or move to a place where you can make the math work.
Dear Liz: The 50/30/20 budgeting plan you advocate just doesn’t work on a low income. I currently rent because I can’t afford the purchase of a house, and the lowest I can go and still be in a safe neighborhood is $600. That’s well over 40% of my salary, and you say all your “must have” expenses including shelter, food and transportation should be 50% or less of after-tax income. With rising prices, saving and debt elimination seem like an unreachable reality. What concrete advice do you have for someone who doesn’t have a credit card, and is trying to get out of $7,000 of debt, to get to stability to purchase a home?
Answer: Saving and debt elimination are tough on a low income. But that doesn’t mean basic math doesn’t apply in your situation. If you spend too much on your “must have” expenses, there simply won’t be enough left over to live your life, pay off your debt and save for your future.
People on lower incomes manage to stay out of debt and save money. To do so, though, they have to limit what they spend on their overhead. They find roommates or rent a room in someone else’s house, or move in with a family or an elderly person and offer to help out in exchange for part or all of their rent. Some decide they simply can’t live cheaply enough where they are, and opt to move elsewhere. Books and websites devoted to the voluntary simplicity movement can give you other concrete ideas about how to live on a shoestring.
If you can’t bear to trim your expenses, your only other option is to make more money. That’s not an easy prospect in this economy, but a second job or a side business could help you get out of debt and save for a down payment.
Dear Liz: I was laid off in November 2009. For the first year, I took the unemployment and tried to find a job without success. So, in late 2010, I started my own business, contracting mainly for employers for whom I used to work. Unfortunately, I am making about a third of what I used to make, and even after cutting expenses, there are months that I can’t pay my bills. I have taken two withdrawals from my self-directed IRA this year. Is that the smartest thing to do? Or should I even out my cash flow by writing myself loans from my home equity line of credit?
Answer: You need to accept your new reality, rather than papering it over with ill-advised loans or raids on your retirement accounts.
That means reducing your expenses dramatically to reflect your new, lower income. If your housing expenses eat up more than a third of your current pay, for example, you need to consider your alternatives. You have equity in your home, which should make a sale easier. If you want to hang on to the house, consider getting roommates or even renting out the house while you live elsewhere (if the rent will cover your home’s monthly expenses).
You may have loan payments or other debts taken on when you had more income that you can no longer afford. If that’s the case, discuss your situation with both a legitimate credit counselor (one affiliated with the National Foundation for Credit Counseling at http://www.nfcc.org) and a bankruptcy attorney (find referrals from the National Assn. of Consumer Bankruptcy Attorneys at http://www.nacba.org).
Your home equity should be reserved for emergencies, not used to finance a lifestyle you can no longer afford. And your retirement funds should be left alone for retirement.
Dear Liz: Due to lack of work over the last few years, I finally began my Social Security benefits this year. I can afford only catastrophic health insurance, so I hardly ever see a doctor anymore.
So here’s the problem: A pet! I have had my cat Jackie for nearly 14 years. Jackie has a growth on her neck that has been growing since last fall. Last week, I took her into a pet clinic that offered free first visits. Their suggestion was to remove it and have it tested for cancer. The cost was $450 just to remove it, with another $150 to have it tested. Ouch! If it is cancer, I can’t afford the treatment.
The vet says Jackie seems remarkably healthy and could live another five or six years. Do I spend that extra money for a possible negative assessment of something I can’t afford to cure, or do I just let her live out her life with the growth continuing? I feel like I am not being a good parent.
Answer: A pet may feel like a family member, but your cat is not your child. Although most parents would willingly bankrupt themselves to save a child’s life, you don’t face a similar obligation to extend a pet’s life.
You do have an obligation to make sure a pet doesn’t suffer, and you may have more options for treatment than you think. Discuss your situation with the vet who assessed Jackie to see if more affordable diagnostic and treatment options are available. If you’re willing and able, your vet may consider allowing you to work off a bill by cleaning kennels or answering phones, according to Humane Society of the United States.
If not, contact your local animal shelter to see if it can recommend a veterinarian willing to discount his or her services. There are also a number of national and local organizations that provide financial assistance to pet owners in need. You can find a list at the Humane Society’s website.
If you get another pet down the road, consider buying a health insurance policy for the animal. The American Society for the Prevention of Cruelty to Animals estimates a typical policy for a cat would cost about $175 a year, although premiums vary based on deductibles and what the policy covers. Veterinary costs have spiraled to the point where these policies can provide real protection against catastrophic bills.
Dear Liz: I’m 28 and trying to get better with money. I’m enrolled in a debt management plan through a consumer credit counseling service and have paid $21,000 in credit card debt down to $8,000. The debt was left over from my divorce three years ago — my ex is nowhere to be found, so it’s all on me to pay it off, which should be done by early 2013. The biggest chunk of my paycheck goes to this debt and rent. Otherwise I don’t spend much. I use coupons for groceries and anything else I need. My car payment is reasonable (less than $200 a month) and my student loans are in forbearance. I spend less than $50 a week on food. I don’t have cable, only Internet and Netflix. I cut my cellphone bill to a manageable rate. I’ve switched car insurance companies several times to get lower rates. I usually bring my lunch to work and rarely buy clothes, eat out, get haircuts, travel, give gifts or do anything extra because I don’t have the cash at the end of the month. I went from paying everything late to paying everything on time. This is a great achievement for me. But all of this cutting back hasn’t helped. I still don’t have any money in savings and very little in checking. I transfer money into a savings account but then take it right out when it’s needed. And it’s always needed. I’ve been trying to find a second job or even a new job that pays more, but I feel like it’s impossible right now. Do you have any advice that could help me?
Answer: What you’re experiencing is frugal fatigue. You’ve cut and you’ve cut, but you still have a long way to go. It’s easy to look at the road ahead and feel discouraged.
But you have to give yourself credit for paying off $13,000 in debt. That’s a huge achievement. Give yourself another pat on the back for staying current with your bills.
The discipline you’re learning will help you enormously in the years to come. You’ll be able to build a substantial emergency fund once the debt is paid off simply by redirecting a portion of the money you’re now sending to creditors.
In the meantime, don’t sweat the fact that you don’t have a huge savings account. Work on setting aside just $500 or so, which should cover most small setbacks and keep you from having to use your credit cards. If you have to drain your savings for an emergency, that’s OK — the fund is serving its purpose. Just build it back up again.
Earning more money is usually the fastest way to dig yourself out of a hole. If you can’t find another job or a better job, create your own job. Perhaps your work skills lend themselves to moonlighting. If your job allows you to take on freelance clients, that’s a good way to bring in extra money. Otherwise, if you have a talent or skill you can teach, do that. If you don’t, consider providing services that others need: house cleaning, house sitting, dog walking, errand running.
You can look for some ways to give yourself more breathing room. If you’ve cut all the small expenses, then it’s time to look at the big ones: your rent and your debt payment. You may be able to free up more money for saving, and for living, if you find a roommate. Also, ask your credit counseling agency about the possibility of reducing your payments a bit. It will take longer to pay off your debt but it could make life more pleasant in the meantime.
Dear Liz: Do you have any advice for a family of six with only $200 a month to spend on food? My wife and I are in dire need of advice, as our bills keep increasing but neither of us has gotten a raise in six years. We have two garnishments on our paychecks that effectively take 50% of what we make. After health insurance and 401(k) loans are deducted, we bring home $2,000 a month. Our rent takes $1,400 of that and utilities take most of the rest. Do you have any miracle advice for us?
Answer: Many families are facing your dilemma: flat incomes with rising costs. But your wage garnishments and 401(k) loans indicate you have a history of mismanaging your money, which has led to even more pain.
You need the advice of an experienced bankruptcy attorney. Wage garnishments by federal law aren’t supposed to exceed 25% of your disposable income, and state laws often provide even lower limits. If you can get your garnishments adjusted or have them wiped out in a bankruptcy filing, you may be able to create more breathing room.
In the meantime, see whether you qualify for the federal government’s Supplemental Nutrition Assistance Program (formerly known as food stamps). If you make too much money or have too much in assets to qualify, you can still visit a food bank to supplement what you’re able to buy.
If you can’t find a way to lower your costs further, the only solution is more income — not an easy prospect given the high unemployment rate, but you may be able to find a job at a competing business that pays more or start a business on the side.
Unfortunately, there are no miracles when it comes to money math. You can’t make two plus two equal five or have outgo that exceeds your income without eventual disaster.