When I see people around me making huge expenses despite their mediocre income, I always worry about how close they are to a financial disaster. Although many people have become more conservative after the financial crisis, others simply refuse to learn.
There are so many examples of people who have lost their home and are burdened with credit card debt, and to add to their misery, they’ve also lost their jobs. Some planning to protect yourself from a financial disaster can give you peace of mind and prevent hardships for your family.
Don’t be extravagant
The easiest way to deal with a financial disaster is to prevent it from happening in the first place. Don’t make extravagant expenses and stretch your finances so much that a single adverse event can bring everything crashing down.
The biggest expense for most people is buying a house. And this is where you need to be most conservative. You’ll always be tempted to go for an extra room or a better location, but can you really afford it? If your spouse is also working and you’re absolutely sure that even if one of you loses his or her job, you would still be able to manage your mortgage payments, then sure, go ahead and buy that dream house.
But if you feel there is any vulnerability in your financial situation, then don’t forget that the importance of having stable finances is much greater than having that extra room.
Stress testing your finances
Stress testing is a great way to understand how robust your financial situation is. Don’t assume that things will stay the way they are right now. Think of two things that can go wrong. For example, you can imagine a situation where you lose your job and at the same time your mortgage payments go up because of higher interest rates. If that happens, will you be able to retain your house and sustain your family for at least 6-7 months of job search. If yes, then your financial situation is relatively robust.
If you feel that even a single adverse event could shatter your finances, then it is time for urgent measures. Try to minimize the risk by moving to a smaller house and increasing your savings to help you sail through tough times. If one of you is not working, it may be a good idea to start looking for a job to make sure that your family’s financial future is safe.