8 Steps to Prepare for a Personal Financial Crisis

by Frances Stanford

From market meltdowns and recessions to bad events closer to home such as a lay off or sudden illness or injury, a personal financial crisis can happen in any number of ways.

That's why having a financial plan in place will help you best prepare for any financial crunch that could be headed your way. The idea is to place your financial house in such a position that you're protected regardless of the financial storm that may arise.

Here are eight steps to building a rock-solid financial plan.

1. Create a Back-Up Plan

Your first step is to prepare a household budget. List all of your monthly expenses. Make sure you include the money that you spend on your rent or mortgage, as well as transportation, leisure activities and groceries.

Next, start to eliminate non-essential items like entertainment, second car payments, gym memberships, etc. This is the bare-bones number you need each month to survive, financially speaking.

In the event of a loss of income, how would you meet this number? Brainstorm ideas on your available options and consider other ways you could utilize assets or create income.

2. Start a Savings Account (I.E., Your Emergency Fund)

The next step is to start a savings plan that will help cover your minimum monthly living expenses.

Pay yourself first each month by putting around 10% of your salary into an account that you vow not to touch. If you're tempted to use this money when you're a bit short, choose a different bank than you usually use. As soon as you receive your pay, transfer the money into this account and then forget that you have it there. You will be surprised at how soon the balance can add up.

Ideally, you should have enough money in this account to pay for all of your basic living expenses for a three-month period, though keep in mind some experts recommend that a year's worth of savings is more practical.

This extra cushion will ensure you have the funds to continue business as usual while you work to find more income.

3. Pay Off Your Debts

Credit card debt is one of the major causes of financial difficulty when times get tough. If possible, pay the balance on your accounts in full at the end of the month. While it may sound nice, this is not a reality for most people. But it's imperative to eliminate these balances to protect yourself in times of financial crisis.

Take a look at the outstanding balances of the credit cards that you have. Start with the one that has the lowest balance and pay a higher amount than the minimum payment each month. When you get this card repaid in full, use the payment you were making and add it to the payment for the card with the next-lowest outstanding balance. This is where you will see the balance coming down much faster. It may take some time to complete, but the rewards are well worth the effort.

[Recommended Feature: 10 Ways to Dig Yourself Out of Credit Card Debt]

4. Reduce Your Monthly Expenses

Look over your list of current monthly expenses to see where you can reduce waste. For example, if you eat out at restaurants for lunch every day, start packing a lunch to take with you to work. Cancel your magazine subscriptions, car pool with friends to reduce transportation costs and visit your local library for entertainment ideas. With a little perseverance, you will gradually reduce this expense and have more money to put into your savings or apply to paying off debt.

[Recommended Feature: How to Save $1,000 Every Month as a Super Saver]

5. Update Your Insurance

Is your personal property covered in the event of an environmental disaster? What about your medical insurance should you fall ill? Debt accrued due to medical expenses (caused by physical injury or illness) can often times be insurmountable, and is the leading cause of bankruptcy. Be sure your policies are up to date and take the time to review your coverage to make sure it's accurate and sufficient. Additionally, if you find that you're paying too much or for duplicate coverage, this could be an opportunity to further trim your monthly expenses.

You should also look into taking out life insurance. With even a simple term-life policy in place, you can rest easy knowing your family will not have to endure financial stress if something were to happen to you.

6. Perfect Your Resume

There's no better time than the present to polish your resume. Update your work history and any new skills you may have acquired since you last updated. Also be sure to stay in touch with former colleagues or other professionals in your field.

LinkedIn is a great place to start -- you can quickly and easily create a profile, search for former colleagues and create new networks.

Are there any professional-development courses you've been putting off? Now may be a good time to acquire new skills that will add to your marketability.

7. Create an Extra Income Source

One of the ways you can build up your savings and pay off your debts is to create a second stream of income. Look at your talents and see what you can do to make extra money.

You may be able to extend your work into your home by doing work on your own, such as preparing income tax returns or designing web sites. There are numerous ways of making money for home online, such as selling extra household items on eBay or becoming a freelance contractor.

While it won't equal your regular salary, it can help keep you afloat should you lose your primary source of income.

8. Utilize Your Assets

Although you may have a tough time downgrading your home in the current housing market, you can still take advantage of the low interest rates to refinance. If you have equity in your home, you might also consider refinancing for a higher amount and using the extra funds to jump-start your savings account.

If applicable, the IRS allows you to take "distributions" (withdrawals) from your Roth IRA before 59 1/2 without penalty or taxation of earnings if they meet the qualified early distributions rules. Learn more in our recommended article: 5 Safe Ways to Tap Your IRA Before You Retire.

If you have investments in equities that are vulnerable to market conditions, you might want to consider moving part of your portfolio into low-risk assets, such as bonds, CDs, money market accounts or checking or savings accounts. Not only will you be limiting your exposure to risk should the markets fluctuate suddenly, you'll also have easier access to these funds should you need them in the future.

All of these can be incorporated into your back-up plan for what you can do in times of a financial crisis. With such a plan in place, it can drastically reduce the amount of stress that you have.

Extra Tip: You'll feel even more financially secure if you pay off your debts sooner rather than later.

Here are three great ideas that will help:

  1. Pay off your mortgage to free up an extra $1,000 to $2,000 every month. Check out 3 Ways to Pay Off Your Mortgage 15 Years Early.
  2. Free yourself from credit card debt. Learn how to consolidate your debt and pay 0% on your balances for up to 21 months in The 4 Best Credit Cards for Balance Transfers.
  3. Shrink and eliminate your car payments. If you're paying 6% APR or more, it's time to know The Top 3 Reasons to Refinance Your Auto Loan.
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