Learning from the Fallout of a Government Shutdown

You may have heard the statistic that a large majority of Americans do not have the savings to withstand a $400 unexpected expense. Even if you have exercised the discipline to save and build up your Cash Reserves, if something unexpected happened in the past that required you to use your stash, you may have found it challenging to build those funds back up again. It may not be an easy thing to do, but it is an important element of financial health to have a reasonable level of Cash Reserves when something unexpected happens. It is not a question of if something will happen, but when it will happen. If it hasn’t happened to you yet, as the saying goes, “just keep living”. As a result, it is critical to make it a point to build or re-build your Cash Reserves to the level you desire in case you find yourself in need of cash. There is a common rule of thumb in financial circles that you should have 3-6 months or more of your expenses in savings. That rule of thumb comes from the idea that if you lost your ability to bring in income, you would likely be able to resume generating income within 3-6 months. Depending on the work you do to earn income, your timeframe might be different, but in any case, you should determine how much savings is appropriate for you to get through such a situation. Once you’ve determined how much you need to have available, if your savings is not at that level yet, you should work to set aside funds as you generate income so that you build your savings to the desired level. As previously discussed, if you reached that level at some point and had to use those funds for the purpose intended, it is important to return to that mode of setting aside regular savings to replenish the reserves you had to use. There can be other major benefits to having a desired level of Cash Reserves outside of the loss of income, such as having to pay for a large repair bill, but the loss of income may be the biggest risk you face in your financial life, and Cash Reserves serve as a first line of defense to give you a backstop when things go wrong.

You may have heard the mantra “Live Within Your Means” plenty of times, and for good reason. One of the key elements of financial health is spending less than the income you bring in. If you spend more than you make, you will most likely have to take out debt to make up the difference, which puts you in an even bigger hole because the debt payments get added to your cash outflow, and that can grow as the interest is charged on the debt. You probably also have heard that a large majority of Americans live paycheck to paycheck. It is no coincidence that you have that statistic in conjunction with so many not having the ability to withstand a major unexpected expense. The two in many ways go hand in hand. If you live paycheck to paycheck, and the paycheck suddenly stops, you are going to find yourself in a challenging spot. Therefore, it is good practice not only to Live Within Your Means, but to give yourself even more breathing room by Living Well Within Your Means, or as some would say Living Below Your Means. This is not to say that you should deprive yourself of enjoyment, but instead that you want to have a good handle on what expenses are necessary vs. those that are just nice to have so that it becomes easier if you have to scale back on expenses due to a disruption in your income. This is one of the principles of budgeting that is not always understood: you budget not for the purpose of restricting yourself but to establish priorities and ensure your money goes first towards the most important things. Another critical principle of budgeting is the idea of Paying Yourself First. If you need to build up or rebuild your Cash Reserves, Paying Yourself First is the mindset you want to take to ensure that no matter how much income is coming in, you are making saving a priority.

There are other principles you can employ if you find yourself with an income disruption like the government shutdown, but those two alone will put you well ahead of the game. Of course, you are more inclined to focus on those areas when something unexpected comes up and you find yourself in a pinch. At that point, it may be too late to put the necessary measures in place to withstand the situation. If things in your financial life are going reasonably well, to the point where you don’t feel the need to focus on these foundational principles, that is the perfect time to test out how you would respond if something did go awry because chances are that you won’t have such adverse consequences if things don’t go as well as you hope. So, how would you go about performing a stress test on your finances? One way of doing that would be to divert some or all of your normal income away from where you normally deposit it so that you simulate the income disruption, which will give you the opportunity to work your plan for bridging the gap. Ideally you would want to divert that income somewhere outside of your Cash Reserves pool so that you don’t artificially inflate your Cash Reserves beyond the level at which they would normally be. Keep in mind, this is a temporary test, so once you have stress tested your finances and identified areas that did or didn’t work, you can resume your normal operations but with a better understanding of how to create the structures that prepare you for the real thing. Again, if you run this test when you actually do have available income coming in, you are really going through the exercise to see how you can adjust your habits to maximize your cash flow and to see how well your Cash Reserves can sustain you during an income disruption.

The foundational principles of establishing good Cash Reserves and Living Within Your Means may seem obvious and uninteresting, but that’s why they are foundational. Just like the foundation of your physical house, your financial foundation doesn’t get headlines, but if something goes wrong with it, you can have major problems. If you can master these foundational principles and stress test your finances during good times, you will be much better prepared for future storms that may come.