How to Stress-Test Your Finances

How solid is your financial foundation?

There’s no question about how this year has been the ultimate stress test for most of us on so many levels. You learned how to identify warning signs of mental, physical and emotional stress. Many great resources are available to help you work through feelings of anxiety, fatigue and depression. But what about tools to help stress-test your finances?

What the heck is a financial stress-test?

Banks and financial institutions use stress-tests on a regular basis to analyze how they would perform under various economic hardships. They have to be prepared for local, national and global disruptions that would have a negative impact on their bottom line. Even though you are not a bank or a large corporation, you need to know how resilient is your financial foundation.

There are four main calculations we use with our clients to quickly assess where they are doing well and where they may be at greatest financial risk. Once we’ve identified their financial resilience, we can help them focus on creating a unique plan to build a life they love.

Four important numbers you need to know

  1. Are you living within your means (LWYM)? Here’s the thing – the more you hand out to everyone else, the less you have available to invest in your dreams, future and interests. First, add up all of your monthly bills and expenses (online purchases, memberships, tickets, pet care, beauty/skincare, massage, etc.). Average any annual expenses by dividing the amount by 12 months (car registration, for example). Next, take your TOTAL MONTHLY LIVING EXPENSES and divide it by your ACTUAL TAKE-HOME INCOME (net). This is the total amount of your income you are spending to maintain your current lifestyle. For example, $2,400 in total expenses, divided by $4,000 in net income, equals 60% (.60 x 100). KEEP IT BELOW 70% !!
  2. What is your debt load (DTI)? To avoid overextending yourself, make sure your total monthly debt obligations do not exceed 35% of your total net monthly income. This includes your housing, whether you have a mortgage or pay rent. Your total monthly payments are what you are committed to pay based on a contract or agreement. Add up your MONTHLY MINIMUM DEBT PAYMENTS and divide by your ACTUAL TAKE-HOME INCOME (net). For example, $1,800 in debt payments, divided by $4,000 net income, equals 45%. In this example, my debt load is too high and will make it challenging to refinance, get a great interest rate or access additional funds in an emergency.
  3. Are you house poor? Housing and transportation are usually the top two expenses for people throughout their life. They impact not only your quality of life but also opportunities for financial freedom. In order to have money available each month to save, invest and spend on the things you want, you need to keep these two big expenses in check. Your TOTAL HOUSING EXPENSES include the mortgage or rent payment, insurance, housing fees, taxes, utilities, furnishings and ongoing maintenance. Keep your total housing expenses below 40% of your net income. Make sure that you can afford to cover all expenses if your housemate(s) lose their job, move away or take off. Don’t let your housing choices prevent you from pursuing your dreams.
  4. How much debt is financing your lifestyle? Your Credit Utilization Ratio shows how much of your total available credit lines you are currently using. Any time your ratio exceeds 30%, it negatively affects your credit score and usually means that you are borrowing against an uncertain future. There’s no guarantee that your income will increase, that your job will always be there or that your health will never fail you. Add up your TOTAL OUTSTANDING DEBT (excluding mortgage) and divide it by your TOTAL AVAILABLE CREDIT LINES. For example, current outstanding balances across three credit cards is $4,800 and total available credit limits are $12,000, equals 40% credit utilization ratio.

Take time for a financial checkup

Personal finances can be confusing and overwhelming. That’s why we are committed to coaching people just like you every day. We want to share the metrics that matter so you can craft a roadmap that works best for you and your goals.

Schedule a free 30 minute financial coaching session today to learn more about how we help clients build a life they love.

Run your numbers at least once a quarter and make sure to follow our blog to help you stay on the right track! Wishing you financial wellness throughout 2021 and beyond. Cheers!


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