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How can I prepare myself financially for a recession?

I’ve heard a lot about a coming recession, but I’m not sure exactly what “recession” means. What is a recession? How can I financially prepare myself for a recession?

A recession is a decline in economic activity that lasts for months. It includes a drop in economic indicators like gross domestic product (the total monetary value of goods and services provided in a country), income, employment rates, manufacturing and retail sales. A recession is different than a depression in that it is shorter – a depression is a deep and long-lasting recession.

With months of store closures, job losses, reduced shopping and social distancing during the coronavirus outbreak, it’s no surprise that many of Canada’s economic factors will have dropped in 2020. The question many Canadians are faced with now is how to stay financially afloat during potentially tough economic times ahead.

Here are 6 steps you can take to prepare yourself for a recession as a result of the coronavirus pandemic:

1. Tighten up your budget

If you had a budget before coronavirus, your spending patterns have likely changed over the course of the pandemic, so you’ll want to adjust it to reflect your new financial situation. If you didn’t already  have a budget, now is a crucial time to create one. During a recession, you should aim to spend less money and conserve your savings. Review your budget for any opportunities to cut back spending – you may not be spending much (if any) money on entertainment since you’ve been home, so perhaps you can redirect that portion of your budget toward savings. Do a review of your spending patterns over the past few months to understand where you have the ability to tighten up and spend less money, moving any surplus into a savings account.

2. Keep cash on hand

There’s no telling how long a recession may last or how widespread the consequences will be. In case of unexpected financial challenges down the line, you’ll want to keep some cash available in an emergency fund. This doesn’t mean you need to withdraw money from your account to have physical cash (unless you want to) – but it does mean you’ll want to be mindful of how much money is available in your account, and not tied up in investments. It also means you should consider how much you’re spending on debt repayments. Rather than making additional payments on long-term, lower-interest debt like mortgages or automobile loans, you may want to reduce to your regular payments and redirect leftover funds to an emergency fund. Continue to focus on paying off short-term, high-interest debts like credit cards, overdue bills and loans so you can avoid interest charges and pay off debts sooner.

3. Think about maintaining what you have and staying put

When the economy is strong, we’re often thinking about buying the “next best thing,” but that should change when the economy isn’t doing well. Rather than looking to buy a new home or vehicle, this may be the time for you to stick with what you already have. Because more people have trouble paying off their bills during a recession, banks and lenders will tighten up lending standards for mortgages, car loans, and other types of financing. So, if you’re facing car troubles or home maintenance, repairs may be the answer rather than replacement. Working on what you already have may be cheaper and more accessible than buying new. If you do need a car loan or mortgage, know that you could be offered higher interest rates and have less access to credit than you would during “good” financial times.

4. Consider any opportunities

During a recession, businesses close and unemployment rises. Not only are you more likely to lose your job, but it also can become harder to find a new job since there will be many more applicants. If you are one of the people who lose their job or face reduced hours as a result of a recession, it’s a good time to consider any opportunities you’ve put on the backburner. Maybe you’ve been thinking about a career change or returning to school. Taking this time to train for a new position that is in greater demand can help your chances of getting a new job in the future.

5. Don’t bank on cost of living increases, bonuses or raises

You may be used to annual pay increases, bonuses or merit raises, but just like anyone else during a recession, employers are facing tighter budgets too. It may be best to plan for no pay increases or bonuses in the next year or so as companies try to stay afloat while the economy rebounds. The same is true of government-sponsored pension plans or Old Age Security as well – because of a hard year, there might not be a Cost of Living Adjustment (COLA) the following year. While the recession lasts, you’ll want to focus on living within your current means rather than projecting higher income in the coming years.

6. If you are on EI or CERB, set aside money for tax season next year

While these benefits exist to support Canadians who are unable to work, both Employment Insurance (EI) and the Canada Emergency Response Benefit (CERB) require their recipients to pay taxes on the income provided. Keep aside a pool of money for the upcoming tax season, so you’re not surprised and unprepared for a bill next year. You’ll also want to be mindful of any tax credits you can leverage to reduce the amount of taxes you pay.

7. Talk to your financial advisor if you have concerns about your investments

With fluctuations in the economy, many investors will be concerned about the performance of savings accounts that include mutual or index funds and stocks. The value of those investments may have decreased since the start of the pandemic, and depending on your stance and situation as an investor, you may want to review your holdings with your financial advisor.

While it is worrisome to consider a recession, being mindful of your financial situation and planning for the future can help keep you afloat. Know that this is not the first recession, and it won’t be the last; since the Industrial Revolution, the economy has seen many short-term fluctuations.

In summary, you can prepare your household to withstand any financial repercussions of the pandemic by:

  • Reviewing your budget and finding room for savings
  • Keeping funds available for any unexpected changes in household income
  • Maintaining what you have rather than buying new
  • Looking for opportunities to learn new, in-demand skills
  • Living within your current means rather than projecting more income in the near future
  • Planning for tax payments on any benefits you receive
  • Reviewing any questions about your investments with your financial advisor

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