Ask Liz Weston

Get smart with your money

Q&A

Q&A: How much debt can you afford to pay each month? Put it in perspective

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Dear Liz: I’m paying down credit card debts. At what ratio of debt to income would you consider my personal finances healthy?

Answer: The healthiest level of credit card debt is none. Credit card interest rates tend to be high and variable, which makes this kind of debt toxic to your financial health. Congratulations for making progress on getting rid of yours.

There are a number of measures you can use to judge whether an appropriate amount of your monthly income goes to debt payments. Among the most common:

◆ Traditionally, mortgage lenders preferred home loan payments to be 28% or less of your gross monthly income and total debt payments, including mortgage, to be 36% or less.

◆ Debt payments, including mortgages, that exceed 40% of gross monthly can be an indication of financial distress, according to the Federal Reserve.

◆ Under the 50/30/20 budget, all your must-have expenses — including housing, utilities, transportation, insurance and minimum loan payments — would be 50% or less of your after-tax income (your gross income minus income and payroll taxes). That leaves 30% for wants and 20% for savings and extra payments on debt. If a loan payment fits under the 50% limit with all your other must-haves, then it may be considered affordable.

You typically don’t need to rush to pay off lower-rate, potentially tax-deductible debt such as mortgages or student loans. Still, you’ll probably want to have all your debts paid off by retirement so you aren’t draining your nest egg to make the payments.

Speaking of retirement, are you saving enough for that goal? Do you have a sufficient emergency fund? Are you adequately insured? Are you able to enjoy your life without excessive stress about money? Financial health includes all those components in addition to paying down debt.

Q&A: Emergency fund: How big?

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Dear Liz: You recently advised a teacher who was inquiring about paying down student debt. You suggested among other things to “have a substantial emergency fund before you make extra payments on education debt (or a mortgage, for that matter). ‘Substantial’ means having three to six months’ worth of expenses saved. If your job is anything less than rock solid, you may want to set aside even more.” Granted, this is in the context of the student debt question, but is that emergency fund advice still valid in light of studies showing the liquidity needs of lower-income households to be much lower?

Answer: The usual advice about emergency funds is often unrealistic and sometimes absurd for most low- or even moderate-income households.

The advice is usually given by financial planners who typically work with higher-income clients. The higher your income, the more likely it is that you have the free cash flow to quickly build a large emergency fund.

An analysis in the New York Times found that a household with income over $200,000 would need about two months to save one month’s worth of expenses. A household with income of $70,000 to $99,999 would need seven to eight months to save one month’s worth. A typical household with two or more people and income of $50,000 to $69,999 would need more than two years to save a single month’s worth of expenses.

As you’ve noted, though, various studies have found that much smaller emergency funds can help households avoid catastrophe.

A 2015 study by Pew Charitable Trusts found the most expensive financial shock suffered by the typical household amounted to $2,000. But as little as $250 can reduce the odds that a low-income household will suffer serious financial setbacks such as eviction, according to a 2016 Urban Institute study.

A three-month emergency fund could be a long-term goal, but it’s not something that should be prioritized over more important tasks such as saving for retirement or paying off high-rate debt.

Such a fund should be a priority, however, over paying off lower-rate, potentially tax-deductible debt. That’s especially true when you’d be making extra payments on student loans. Paying down credit cards can free up additional credit to be used in an emergency, but payments sent to student loan lenders are gone for good.

Q&A: A young mother died in a car accident. Can her widower get survivor benefits?

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Dear Liz: My grandson’s wife, 22, was killed in a motor vehicle accident just after her birthday. My grandson, 26, was left with a 2-year-old and 9-month-old. Due to COVID-19, he was staying home with the children, and she was working at a fast-food restaurant. We thought there would be Social Security survivor benefits, but he has been denied because she did not have 10 quarters of payroll. Is there an appeal for this denial? She was too young to have the required quarters.

Answer: Given her age, the family could be out of luck if she only recently started working. But there is a special rule that applies if she was working at jobs that paid into Social Security for at least a year and a half before her death.

With survivor benefits, the length of time someone needs to work typically varies according to age. To generate survivor benefits, the number of years you need to work at a job that pays into Social Security is — at most — 10 years. Each quarter of work typically generates one credit, and no more than 40 credits are needed. The younger someone is when they die, the fewer credits are needed. People, however, generally need at least six credits, and only credits earned after someone turns 22 count toward the total.

But there’s an exception. Survivor benefits can be paid if the worker earned at least six credits in the three years before death. So if your grandson’s wife worked at least 18 months before her terribly premature death, survivor benefits could be paid to her minor children and to the surviving spouse who is caring for them, said William Meyer, chief executive of Social Security Solutions, a claiming strategy site.

The benefits would be based on her earnings history, so the amounts are unlikely to be substantial, Meyer noted. Still, something would be better than nothing.

All Social Security decisions can be appealed. If your grandson already filed an application and was denied, the denial letter would explain his appeal rights, Meyer said. If he just received a verbal denial, he should go ahead and file a formal application to start the process. If his wife had earnings that might not yet have been reported, he can provide her last pay stubs or W-2 forms when filing the application.

“With there being a concern about her having enough qualifying quarters, as well as low earnings, that could be pretty important,” Meyer said.

Q&A: Age minimum for survivor benefits

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Dear Liz: I am 53 and Social Security is giving me a hold time for my widow support. What should I do?

Answer: The only thing you probably can do is wait.

Survivor benefits are normally only available once you turn 60. You can start as early as age 50 if you are disabled or at any age if you are caring for the deceased worker’s minor children.

Q&A: Dementia and financial accounts

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Dear Liz: You recently discussed the importance of adding spouses to financial accounts before one of them dies to make it easier for the surviving spouse. I wholeheartedly agree. I would add that this needs to be done sooner rather than later. If one of the spouses is diagnosed with dementia, the bank will likely not make changes to accounts. People have to be able to understand what they are signing.

Answer: That’s an excellent point. Another important task is to create powers of attorney for healthcare and finances. These allow someone else to make decisions for you if you are incapacitated. Someone in the early stages of dementia could sign such a document if they understand what it is, but otherwise the family might have to go to court to get a conservatorship, which can be an expensive process.

Q&A: Paying down your mortgage

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Dear Liz: You’re not a fan of prepaying student loans in most cases because the extra money sent to lenders is “gone for good” — it’s not like credit cards, where paying down a balance can free up some of the credit line to be used again. But what’s wrong with paying down a primary mortgage? That can create more equity that people could borrow against.

Answer: Perhaps. To tap that equity without selling the home, though, you need a lender’s cooperation, which isn’t always forthcoming when you’re experiencing a financial emergency. If you lose your job, for example, a lender may be reluctant to offer you a cash-out refinance or allow you to establish or expand a home equity line of credit.

Contrast that with paying down a credit card, which typically opens up available credit as soon as the transaction is processed. That’s not guaranteed, of course, because lenders can lower credit limits or even close accounts if your credit scores drop or if bad economic times make lenders more cautious. But for the most part, credit cards are a much more flexible and accessible source of credit than mortgages.

That’s not to say you should never make extra payments on a mortgage. If you’re on track with saving for retirement, you’ve paid off higher rate debt and you have a sufficient emergency fund, then prepaying a mortgage can make sense.