Net Gains: Weathering a Recession

Feb. 13, 2008 — -- Times are tough, no doubt about it.

I'll leave it to the economists to debate when and if we'll fall into recession. What I'm thinking about are ways to withstand the turbulence.

No matter how unlikely you think it is that you will be caught up in the downturn, it's best to be prepared. If you're unlucky enough to lose your job, you'll be glad you acted ahead of time. And if you stay employed or remain in business, you will emerge from the turmoil with your finances in better shape than ever.

With that in mind, here are some steps to consider in the face of a possible recession.

Hoard cash: They say cash is king. And it sure comes in handy during tough times.

That's why building up an emergency fund should be the first step to consider. If you have one already, add to it. If you don't have a safety stash, it's time to start one.

Set aside the money outside of your day-to-day checking account in a bank account or mutual fund money market offering a competitive interest rate. FDIC-insured online banks may be the best place to look.

Apply now for credit line: If your emergency reserves are lacking, some homeowners may want to consider applying for a home equity line of credit as a backup in case of job loss or major medical bills. It's easier to secure a line of credit while employed.

I offer this advice with some hesitation. In a down real estate market, borrowing against your home can be a dangerous thing to do.

A home equity line of credit for emergencies makes sense if have a high level of equity in your home. But if you don't, home equity borrowing can push you into a situation where you owe more on the house than it's worth.

So be careful here. I'm talking emergencies here, not shopping sprees.

Pay down debt: If you have a decent emergency fund, consider applying extra funds to debt payments, starting with the highest-rate debt first. The lower your debt load, the easier it will be to withstand a personal financial emergency.

Smaller credit card or home equity loan balances mean lower required payments during tough times. And should things get really tight, you will have more borrowing capacity to help you get through an extended job loss or medical crisis.

Act on lower rates: A surefire way to ease your debt load is to lower the interest rate you're paying on that debt. If you have good credit, now is the time to act.

Despite a recent spike upward, mortgage rates are down from last fall. The average rate on a 30-year, fixed-rate mortgage is down about a half a percentage point since November to 5.55 percent, according to Bankrate.com. For some borrowers, that may mean a refinancing opportunity.

Already locked in with a low-rate rate mortgage? Then look for ways to save on your home equity line of credit, which decline in cost each time the Fed lowers interest rates.

If you have good credit, you may be able to chop a half percentage point or more from your home equity line of credit. Some banks are offering rates as low as 1 percentage point below prime for those with high credit scores. Under current conditions, that translates into 5 percent.

Improve job skills: No matter how secure you feel in your job, it's always a good idea to either upgrade existing job skills or acquire new skills.

Most of these steps are short-term ones to protect you during a recession. Over the long haul, however, continuing education may be the single best thing to defend and improve your income-earning power in a constantly shifting economy.

Now is a great time to sign up for that course you've been thinking about.

Check insurance coverage: Finally, a look at your insurance coverage is a good idea during times like these. Many of us rely on our employers for not only health insurance but also for life, disability and maybe even long-term care or auto insurance coverage.

Review the terms of any workplace group policies to see if they can be converted to individual coverage in the event of job loss or another kind of job change. Converting group coverage to an individual policy can be expensive in some cases, but it can be a stopgap measure until better coverage is in place.

Even if you keep your job, it is always a good idea to secure individual policies, particularly in the areas of life and disability coverage.

After all, what's worse than losing your job? It's becoming disabled while you're out of work and lacking disability insurance to provide you with an income until you can return to work.

Act now to weather a potential storm.

This work is the opinion of the columnist and in no way reflects the opinion of ABC News.

David McPherson is founder and principal of Four Ponds Financial Planning (www.fourpondsfinancial.com) in Falmouth, Mass. He previously worked as a financial writer and editor for The Providence Journal in Rhode Island. He is a member of the Garrett Planning Network, whose members provide financial advice to clients on an hourly, as-needed basis. Contact McPherson at david@fourpondsfinancial.com