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It's only been three months, but 33.5 million Americans have already lost their jobs and the unemployment rate is 15 percent. That's a higher rate than we averaged during the Great Depression. And GDP is now running 40 percent below last year's level. During the Great Depression, the maximum GDP decline was 26 percent. Major companies, some a century old, are now going bankrupt. Others, across all sectors of the economy, will soon do the same. Even the healthcare industry is in financial peril.
We need a coordinated national policy to capture and kill Covid-19. As described in my recent column and in this protocol by Professor Peter Frazier of Cornell, short of a miracle vaccine, defeating Covid-19 requires group-testing every household every week. Doing so can get the economy back on its feet in four weeks with 96 percent of the population entirely virus free, sporting green wristbands to make clear to all they are virus free, and able to engage fully in normal activities. The remaining 4 percent would be in quarantine. After two months the virus, for all intents and purposes, would be history.
Unfortunately, the Drs. Fauci and Birx aren't pushing this approach for reasons that totally baffle me. Consequently, our death count, now over 78,000, will keep climbing and with it the fear of routine economic activity. Yes, I know, half the states are reopening. But most are doing so in violation of CDC guidelines. Hence, we are largely returning to where we were in February, i.e. roughly the same position from which infections exploded.
Einstein defined insanity as doing the same thing repeatedly and expecting different results. Reopening the economy without a vaccine, without a proven, let alone available treatment, without a nationwide, enforced face-masking policy, without a nationwide, enforced social-distancing policy, without a nationwide means of contact tracing, without anywhere near the number of survivors needed for herd immunity, and without a group-testing mechanism to test all households every week, is an act of pure insanity. But that's where we are and that's why we all need to take not just physical precaution, but financial shelter.
Secret 1: Cut Your Spending and Tap Your Retirement Account Assets
There has never been a more critical time to do lifetime financial planning — planning that takes full account of your cashflow constraints. As those of you who follow my columns know, my personal financial planning company's software, MaxiFi Planner, does such planning. I don't know any other software sold to the public or professionals that does the same. Hence, I'm going to use our software to illustrate ten secrets to surviving Covid-19 financially.
To be clear, the Covid Plague may end in a month or in two years. No one knows. We've seen some countries, like Sweden and Taiwan, stay open and manage very well. But our country is managing very poorly. How much is due to this or that factor is unknown. What is known is that new infections across the country have barely declined and in some states, as distant from one another as California, Texas, and Alabama, they are currently on a tear.
Everyone, even those with jobs, needs to adjust their spending immediately in light of actual or prospective job loss or salary cuts. This goes for tenured professors like me. Hundreds of universities and colleges will fail depending on the duration of this plague. Hence, we all need to plan for an extended period of low or zero wages. As for retirees, the real (inflation-adjusted) return one can safely earn in today's market is zero. A couple years back it was 1 percent. That may seem like a small difference. It's not.
How much should one cut spending? Let me illustrate. Take a middle-class, Indiana couple, John and Sue, age 50, both of whom were earning $75,000 before the plague hit. The couple, I'll assume, has a combined $800,000 in 401(k) assets, a $500,000 house with a $350,000 mortgage. John has just been furloughed. He's in the airline industry and worries he'll be out as long as two years. To make matters far worse, as I noted above, the safe long-term real (after inflation) interest rate is now zero while a couple years back it was 1 percent.
How big a hit will the couple take under their worst-case scenario? This entails not just planning for John to be out of work for two years, but also planning on the couple's earning no real (inflation-adjusted) return in the future. Yes, they could invest in stocks. But stocks are risky, particularly now. Once you adjust for their risk, they are yielding precisely zero after inflation. And, yes, the safe long-term TIPS (Treasury Inflation Protected Securities) rate may go back up. But it may also fall further. Hence, John and Sue have decided to plan prudently and assume they'll earn zero percent, rather than 1 percent real on their assets.
Absent these adjustments to their circumstances, the couple was able to spend $76,232 annually on a discretionary basis — on everything above and beyond paying their housing costs, taxes, and prospective Medicare Part-B premiums. Incorporating John's two-year job loss and a zero real return, the couple's lifetime discretionary spending drops by 9 percent.
But that's not the worst news. The couple is cash constrained. They only have $50,000 in the bank. Consequently, their worst-case plan requires a $22,404 or 29 percent spending cut to get through the next two years with annual discretionary spending thereafter at $67,262. This is a huge adjustment. One answer is for the couple to take special withdraws of $75,000 for the next two years from their retirement accounts. Thanks to the CARES Act they can do so penalty free. Now the couple can spend $66,983 on a smooth basis going forward. This entails cutting their annual real (inflation-adjusted) spending by $9,249 (relative to their previously planned $76,232 per year) and their monthly spending by $771 for the rest of their lives. That's a nasty 12 percent hit from what they'd planned to spend two years back when they last updated their plan. But if John and Sue don't cut their spending now, their living standard will take an even bigger hit down the road.
Secret 2: Retire Later
Working longer, if that's possible, is a way to partially offset the couple's living standard hit. If John works till age 67 rather than retires at his planned age 65, the couple can spend $69,112 per year, which is 9 percent less than the original $76,232. If both John and Sue work through 67, annual discretionary spending is $71,108.
Secret 3: Use Your 401(k) to Pay Off Your Mortgage
John and Sue have a great investment opportunity of which they may not be aware. Their mortgage interest rate is 3.75 percent. Meanwhile, the long-term Treasury bond rate is 1.25 percent. Hence, there's a 2.50 percent real return from pre-paying their mortgage. Suppose the couple withdraws $70,000 a year from their 401(k)s for roughly five years to pay off their mortgage. Does this help? It certainly does. Now the couple's sustainable discretionary spending is $74,755, up from $71,108. (This column provides another illustration of the gains from pre-paying one's mortgage even at the price of paying higher taxes in the short run.)
Secret 4: Maximize Your Lifetime Social Security Benefits
John and Sue plan on taking their retirement benefits at age 67, when they reach full retirement age. What if they wait till 70? Doing so will raise their annual benefits by 24 percent adjusted for inflation. How does it impact their annual discretionary spending? For the next four years, they get to spend $77,492 annually. Thereafter, they can spend and keep on spending $78,646. Both of these figures are above the $76,232 annual spending they'd been doing in recent years.
Secret 5: Move to a Cheaper State
Both John and Sue have jobs they can do remotely. Before he was laid off, John worked setting up internet affiliation deals. Sue does remote training of customer reps. Consequently, nothing is tying them to living in Indiana, which has an income tax. It's 3.23 percent, which isn't huge, but it's not nothing. What if John and Sue relocate to Texas, which has no state income tax, and simply reproduce their current housing arrangement. Their sustainable living standard rises to $80,858.
The Biggest Secret
As you've seen, it's possible with a powerful financial planning tool to survive the terrible economic situation so many of us are now facing. I've considered adjusting spending, taking retirement account withdrawals early, retiring later, maximizing lifetime Social Security, and relocating to a cheaper state. There are many other things one can consider, including refinancing one's mortgage, taking out an equity line of credit, considering a reverse mortgage, downsizing, doing a Roth conversion while one's tax rate is low, reducing contributions to retirement accounts if it doesn't jeopardize the employer match, taking in boarders, and the list goes on. The big secret is doing precise, living-standard-based lifetime financial planning. It can turn Covid-19's financial nightmare into something not just manageable, but surmountable.
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May 09, 2020 at 08:06PM
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Five Secrets To Surviving The Greatest Depression - Forbes
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