Economists generally believe that the interest rate hikes of 2022 will eventually lead to a recession, likely in 2023. However, last year, the Federal Reserve raised rates at a historic pace to combat inflation. They are working on engineering a soft landing for the economy—which means a slowdown in economic growth that avoids a recession. Whether Jerome Powell and the Fed can do this remains to be seen. One thing is for sure, though, whether we officially have a recession in 2023 or the future, recession-proofing our finances is key to long-term financial stability. Read on to learn five ways to recession-proof your finances in 2023.

 1. Get out of debt.

All debt is not created equal, and we must pay close attention to the interest rates on any debt we carry. The most common form of debt that can cripple us financially is credit card debt. National credit card debt rose to $930.6 billion at the end of 2022, an 18.5 percent spike from a year earlier, according to CNBC and TransUnion. With the average credit card charging an interest rate of 20 percent, credit card balances can quickly skyrocket and become very difficult to pay.

If you use a credit card, the best practice is to always pay off your statement balance in full every month. This will ensure you are not charged interest on any purchases.

Additionally, suppose you carry debt balances from month to month. In that case, whether it be an auto loan, credit card debt, or something else, there are two approaches to paying off debt: the debt avalanche method and the debt snowball method. Let’s briefly walk through each method:

• When using the debt avalanche method, we focus on paying off the highest debt first while making the minimum payment on all other balances.

• When using the debt snowball method, we focus on paying down the account with the lowest balance first while making the minimum payment on all other balances.

So which method is best? To see progress quickly, you should use the debt snowball method. If you are purely focused on paying the least interest, you should use the debt avalanche method. My personal preference is the debt avalanche method.

One additional option is to use a balance transfer offer. Credit card companies often offer these offers when you open a new card. If you choose this route, be sure to pay off the balance in full before the introductory balance transfer interest rate ends.

2. Live below your means.

Being frugal doesn’t need to be boring! Living below our means is extremely important to building long-term wealth. Create a budget, stick to your monthly budget, and spend less than you earn. A good rule of thumb for budgeting is the 50/30/20 method. Using this rule, our monthly spending would look like this with an after-tax income of $6000:

• 50 percent necessities: $3000

• 30 percent want: $1800

• 20 percent savings and debt repayment: $1200

Additionally, when looking at your monthly spending, identify any items you can cut. Look at how much you spend on entertainment, eating out, shopping for fun, etc. Now put those dollars you are saving towards your emergency fund, mid-term savings goals, and long-term investment accounts. Your future self will thank you!

3. Build an emergency fund.

The Certified Financial Planning (CFP®) Board of Standards recommends building an emergency fund with three to six months of fixed and variable expenses. The purpose of an emergency fund is to cover unplanned expenses such as medical bills, home and car repairs, or an unexpected loss of income. These funds should be easily accessible in a safe and liquid account.

According to Bankrate’s February 1 survey of institutions, the national average yield for savings accounts is 0.23 percent. If we compare this to the current annual inflation rate for the U.S. of 6.45 percent, we realize that money sitting in cash is being severely eroded by inflation. However, many banking institutions will pay you an annual rate of 3 to 4 percent in a high-yield savings account. While 3 to 4 percent is still less than the current inflation rate, it is still quite a bit better than the national average yield for savings accounts.

One final note on your emergency fund that I cannot stress enough is that your emergency fund should not be invested in equities (stocks). If the stock market pulls back by 20 percent like last year, and your emergency fund drops by 20 percent when you need the funds, you will put yourself in a very difficult position.

4. Consider creating a second stream of income for yourself.

Did you know that the average millionaire has seven different streams of income? Seven! Some of the most common are:

• Primary salary

• Business income/side hustle

• Dividend income

• Rental properties

Is there a hobby you enjoy that could turn into a side hustle? Do you enjoy writing? If so, consider starting a blog and eventually monetizing it.

The biggest takeaway here is there are countless ways to generate additional income for yourself. Don’t sell yourself short. Go out there and get after it.

5. Stay invested and diversified.

Staying invested during market downturns is key to long-term success. During 2008, the S&P 500 fell by 57 percent from its peak. While this was extremely difficult to stomach then, investors who remained invested and held onto their investments were better off. It took around 17 months for the stock market to recover, and it continued to rally for the next decade until 2020.

Additionally, given how volatile the stock market has been in the past year, ensuring that you are properly diversified has never been more important. What does it mean to be properly diversified?

Diversification is a strategy that mixes various investments within a portfolio to reduce portfolio risk. Diversification is often done by investing in different asset classes, such as stocks, bonds, and real estate.

If you are young, your risk tolerance is high, and your investment time horizon is long. Diversification could simply mean investing in several exchange-traded funds (ETFs) or index funds while remaining 100 percent allocated to equities.

I hope that you’ve enjoyed this piece and that it has given you some value. If you have questions about financial planning, please don’t hesitate to drop me a note via email. I’d happily schedule a complimentary meeting with you to review your financial situation.