Almost everybody will have to face financial hardship at some point in their lives. Unfortunately, like other challenges, tough times rarely come around when it’s convenient for us, and serious financial trouble can change your life permanently. For this reason, it’s important to become aware of the tools at your disposal for when you face difficult financial hardship.
When you need income quickly in an emergency, it’s more important than ever to avoid potentially dangerous schemes that seek to take advantage of those in desperate situations. The key to staying out of trouble is to recognize the legitimate options available to you before you find yourself in a position to call upon them. With this information in hand, as well as the fact that nobody will ever give you anything for free, you can handle a financial meltdown with calm and dignity. Here are some tools that you need to know about in the financial world.
Taking Out Loans
Taking out a loan is probably the first thing that most of us think about when we have to produce a lot of money in a short amount of time. In principle, loans are really good ideas, and likely the backbone of some of the world’s major economies, but there are some things to be aware of.
First, let’s review how a loan works. There’s a lot of lender terminology to learn if you’re interested, but I’ll stick to the basics for now. In a loan agreement, one party, a lender, controls a sum of money. The lender chooses to give out some of her money to people who meet certain requirements, or borrowers. The identities of lenders and borrowers can be just about anything. Sometimes they’re banks and large corporations, sometimes they’re government entities and students. The point is that they all share the same relationship.
Now, as we all likely know, lenders don’t just hand out their money for free. They expect borrowers to pay that money back over time, plus a little extra. This “little extra,” or interest, is how lenders make a profit.
With that out of the way, let’s talk about how a loan can, and cannot, be useful to you in a financial crisis. Unfortunately, a classic loan, from a bank or lending agency, is not well-suited for those in a financial crisis. This is because banks, in order to keep their investments safe, prefer to lend to people who are in a stable financial condition. Remember that the lender expects to be paid back in a timely manner and with interest. This is not always possible for people who are responding to a financial crisis, meaning those with such a need are not the best candidates for these kinds of loans.
Instead, you may have better luck seeking a loan from family or friends. Since these people are not interested in making a profit from loaning to you, they’re not likely to hold you to a very high interest rate. They’re also likely to be sympathetic to your plight in a way that a bank or lending agency won’t be. However, there are pros and cons to these loans. While interest rates and fees will be much softer, there can be a lack of clarity around personal loans, and failing to pay them back can lead to social ruination. Your friends also won’t have the financial resources of a large bank, so there’s a limit to how much money they can safely lend to you. In spite of these downsides, loans from family and friends are some of the better loan types for those facing a financial crisis.
Before we move on, this is a good time for a word of warning about predatory loan agencies. Places that offer payday loans and the like can seem very appealing to those facing financial hardship, but they are a Trojan horse more than anything else. Predatory lenders will seek out people facing hard times and offer them seemingly life-saving loans with astronomically high interest rates and hidden fees. Learn to spot these kinds of lenders and avoid them at all costs.
Keeping an Emergency Fund
Lots of people will talk about an emergency fund and how important it is to have one, but a lot of information surrounding this resource is fairly vague. Many people who claim to keep an emergency fund are not likely to know exactly how much you should save or where money should be applied first in case of an actual emergency.
In part, this is likely because there is no one-size-fits-all approach to an emergency fund. Different circumstances allow for different kinds and sizes of emergency funds to be created and will place different demands upon them. For example, someone making $120,000 a year has the resources to create a much larger emergency fund than someone who makes $40,000 a year.
So instead of recommending exact target amounts for emergency funds, experts typically think of them as a portion of a person’s income. Three months of pay is what is usually recommended, accumulated over however long it takes you while setting aside a portion of your paycheck each month.
As for what an emergency fund should be used for, that depends a great deal on the particulars of your financial situation. In general, however, seek to pay off debts with high interest first. You should also play high priority on fixes that will contribute to making your financial life more stable. For example, if you need to pay to fix your car so that you can keep going to work, put that at the top of your list.
One way to get money in a pinch is to turn to the valuable things that you already own. However, since many of us don’t usually have hoards of items that can be sold right away, this isn’t always an option.
Instead of selling things, though, you can get money by using something valuable that you already own as collateral. Many people choose to do exactly this with their homes, and when they do it’s called a reverse mortgage. A reverse mortgage is exactly what it sounds like. Instead of a homeowner paying off a bank for their home, the bank pays the homeowner. Of course, they don’t do this out of generosity. The bank will expect the reverse mortgage to be paid back, just as with any other kind of loan. However, since you are putting your home up as collateral, the bank will be much more likely to accept the terms of a reverse mortgage with you.
Reverse mortgages are not fix-alls. Since your home is on the line, it’s important that you only use this tool if you are confident that you’re headed toward financial stability down the road. That said, however, a reverse mortgage can be a great way to secure much-needed funds in a pinch.
Nobody wants to face a financial crisis, but if you have to, it’s best to do it prepared. By making yourself aware of the tools available and planning out how to use them before you absolutely need to, you can make a personal financial crisis a breeze.